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Auditor advice on management preparedness for response to activist challenges


Source: The Wall Street Journal | CFO Journal, February 10, 2015 posting


CFO Journal.


CFO insight and analysis written and compiled by Deloitte

Ways to Prepare for and Manage Shareholder Activist Campaigns


Miles Ewing


Shareholder activism is top of mind with many public company executives and boards of directors these days, and for good reason: according to research from Capital IQ, the volume of activist campaigns tripled between 2009 and 2013¹, and as of June 2014, 400 activist funds control more than $100 billion in assets under management (AUM), twice the amount in 2011².

“Shareholder activism has emerged as a force to be reckoned with, and companies need to take steps to be prepared to respond,” said Miles Ewing, a principal with Deloitte Consulting LLP’s Finance practice and leader of its Integrated Performance Management group, during a Deloitte webcast. “In the wake of the financial crisis, Dodd-Frank and Say-on-Pay votes, shareholders have become more assertive in expressing what they want from the companies that they invest in. This new dynamic between public companies and shareholders, including the intersection of corporate governance and activism, is important for CFOs to consider,” Mr. Ewing said.

CFOs can help prepare their companies to manage increasingly vocal and influential investors by understanding and proactively addressing company financial issues that could attract activist attention, such as value gaps, and by a more proactive engagement with the investment community long before an activist campaign begins and developing a playbook for responding to an activist campaign.


Chris Ruggeri

“One of the preferred defenses for shareholder activism is understanding your owners and their priorities. The important thing is not to get caught by surprise when an activist puts forth a proposal. To a large extent, activism is a debate about capital deployment, risk tolerance and performance. In the normal course of business, this should be a regular part of management and the board’s agenda. You want to be in control of the situation and keep control of the situation, and that means being a prepared company when it comes to activism,” observed Chris Ruggeri, a principal and U.S. M&A leader for Deloitte Transaction and Business Analytics LLP.

Trends in Shareholder Activism

“One of the keys to being a prepared company when it comes to activists is to understand what they’re doing and why,” noted Bob Lamm, a senior advisor to Deloitte LLP’s Center for Corporate Governance, during the webcast. Some of the trends shaping today’s shareholder activist campaigns include the following:

Bob Lamm


―Some activists have a longer-term investment horizon than their reputation suggests. A study of 2,000 activist campaigns over the last 10 years by Columbia Business School Professor Wei Jiang found that activists’ average holding period is just over two years.³

― Activist campaigns are often “friendly.” The majority of activist campaigns studied by Professor Jiang occurred without getting into the press. Typically, a shareholder approached a company with a point of view on either how capital should be deployed or opportunities to enhance value and where there was a conversation between company management and the investor.4

―Activist campaigns vary in objectives and tactics. Certain activists discreetly put forth proposals focused on incremental value creation through constructive interaction with company management. Others mount more aggressive, public campaigns aimed at proxy contests or other tactics to force major company transformations or change the composition of the board or management⁵.

―Different industries have attracted varying amounts of attention from activists, although no industry appears immune. Even when national security or regulatory interests come into play, activists have made their mark across a broad range of industries and will likely continue to do so.

―Factors that tend to attract activist attention are strong cash flow, low dividend payout ratios, conservative balance sheets, recent underperformance, capital-intensive businesses with assets ripe for selling or spinning-off, and industries facing shifting market forces and business models.

Ways to Proactively Prepare for Activism

What do these findings and others from recent activist campaigns suggest in terms of what public companies might consider doing about activism? Lessons learned, considerations and emerging leading practices include the following:

Identify issues that might attract activists’ attention. “A starting point for CFOs is understanding how investors think about your company, and then help investors understand your business model and capital allocation decisions, and have a high degree of confidence in management’s ability to achieve that business model,” said Ms. Ruggeri, speaking during the webcast. To identify potential issues that could draw activists’ attention, CFOs can ask, “How does our cash flow performance compare to historical trends and our peers?”; “Is strong performance generating a lot of cash that is building up on balance sheets?”; “Does our capital structure have a conservative bent that might spur debate on whether additional leverage would be appropriate?”; “Is the sum-of-the parts worth more than the whole?”

―Articulate the value proposition. Have a compelling, fact-based investment thesis that includes making a clear case for why the company made its strategic choices over alternative strategies and financial decisions.

―Regularly evaluate strategic and transaction alternatives. “The current wave of activism is a reminder that companies need to regularly and objectively evaluate and prioritize various alternatives for delivering value to shareholders,” says Ms. Ruggeri. “If you haven’t evaluated various alternatives in a few years, or you aren’t being objective in making decisions about alternatives for realizing value, you are setting yourself up for trouble.”

―Review governance policies and board composition. Is performance aligned with compensation? “I consistently see instances in which excessive compensation or a lack of alignment between performance and compensation in and of itself can generate activist interest,” observed Mr. Lamm.

―Get out in front of significant events. If management is contemplating a major strategic shift or a transformational M&A transaction, ask, “Are we out in front of that story, communicating what the investment or change in strategy or the business model is, why that action makes sense and how it is going to generate long-term value for shareholders?”

―Monitor market activity. Be regularly apprised of what’s happening in your stock and with your shareholder base. Have there been recent changes in investor behavior or interactions? What is happening in the industry? Are peers being targeted by activists, and if so, which funds and what proposals are being put forth?

Address shareholder demands for information, transparency and access. Proactively engaging with investors on a wide variety of topics can be a strong tool for management in anticipation of activist activity. A high level of engagement and two-way communication helps establish credibility with the investment community that management has the shareholders’ interests at heart, and provides crucial feedback on issues many investors are concerned about. This may be especially helpful when engaging with major shareholders, who can be cornerstones of an activist defense. Make sure they are satisfied with the information and their access to management.

Attract and retain top talent for the investor relations (IR) organization. A more dynamic IR strategy may require companies to significantly upgrade the talent and tools of their IR organization, Ms. Ruggeri observed. “The IR head should be working closely with the CEO and CFO on investor communications and be fluent in company strategy and finance so they can have an interactive dialogue with the stakeholders,” she noted.

Have a Response Playbook and Team in Place

Just as many companies have crisis management teams and playbooks, it can be critical to develop a clear plan on how to respond if an activist launches a campaign. Having a protocol and a dedicated team with clearly articulated responsibilities to follow helps companies to take control of the situation from Day 1 and avoid missteps in the heat of the moment. “For instance, you probably don’t want to make the chairman available on day one, but you should have an idea of when to get to that step if required,” Mr. Lamm said.

One of the first steps in a playbook is not to ignore the activist. “Stonewalling only incites activists to become more aggressive,” noted Mr. Lamm. “You don’t want to lose control because once you do, you lose credibility in the marketplace, and when you lose credibility in the marketplace, it is very difficult to wrestle that control back.”

The response team should include financial advisors, attorneys, accountants, IR and PR. It is critical that senior management keep the team informed and aligned with their response to the activist campaign.

Keep stakeholders informed and aligned. You don’t want the wrong message being communicated externally, so keep everyone informed of what management is thinking and planning. One question the team should ask almost on a daily basis is, “Should we inform the board?”

Have directors who can speak to the activist community. For example, if the chair of the compensation committee can meet with an investor who questions the alignment between pay and performance and justify it and defend the compensation structure, it is far more effective than having the CEO defend it,” Mr. Lamm said.

Incorporating these steps and considerations may not lead to a complete defense against shareholder activism, but they are crucial to effective management of an activist campaign. “Make no mistake, shareholder activism is likely not going away anytime soon. Companies need to understand and proactively deal with this new environment,” Ms. Ruggeri said.

1. Capital IQ
2. Prequin Special Report: Activist Hedge Funds, June 2014
3. Corporate Development 2012: Leveraging Relationships in M&A, Deloitte Development LLC, pp. 38- 39.
4. Ibid.
5. Ibid.

February 10, 2015, 12:01am


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