Shareholder activism is on the rise, and activists are becoming more creative in building alliances. With the success that activists are experiencing, and the billions of dollars that they are raising, there is no doubt that activism will continue in 2015.
As of October 15, 249 activist campaigns had been launched so far this year, up from 202 for the same period last year.1 Whether they are demanding board seats or the removal of officers and directors, launching a hostile bid or advocating specific business strategies, activists are becoming even more of a force to be reckoned with. And activists are emerging with ambitious and creative tactics, most notably the bidder-activist collaboration model used by Valeant Pharmaceuticals and Pershing Square Capital Management L.P. in their hostile bid for Allergan. Although ultimately losing the bid to another buyer, Pershing Square, as a 9.7 percent shareholder, stands to collect $2.6 billion, which profit will likely spur others to try some version of this approach.
In light of the success that activists have experienced in 2014, activist funds are enjoying an influx of capital. Activist investors raised billions of dollars in 2014, growing their funds under management by $9.4 billion in the first half of 2014 to $111 billion.2 Considering that returns are averaging 5.9 percent, compared to a 3.9 percent gain for hedge funds in general, the money will likely keep coming.3 As the activists grow, so does the size of their targets. In 2013, the U.S.-listed companies targeted by activists had an average market capitalization of $10 billion, up from less than $2 billion at the end of the last decade.4
With the threat of activism in the air, boards need to be prepared. Directors need to understand how activists think and what tactics and tools activists employ. They need to know company vulnerabilities that could attract an activist’s attention and understand what defenses the company has in place to protect itself. Directors also need to understand who their company’s shareholders are and what they care about. Some specific steps companies need to be taking include —
- Understanding the company’s vulnerabilities. Boards need to carefully review their business and strategy to identify any weak spots that might create concern among investors. Underperformance, particularly as it relates to industry peers, is the easiest way to draw activists’ attention. Other lightning rods are large cash balances that could be returned to shareholders through dividends or stock buybacks, unrelated or underperforming divisions or business units that could be spun off, and other assets, such as real estate, that do not generate a sufficient return and could be sold. Once vulnerabilities are identified, boards need to determine how to address them while focusing on what is in the best interests of shareholders.
- Understanding the company’s defenses. It is also critical that boards assess what defenses the company has in place or readily deployable, as many companies have dismantled their takeover defenses in response to proxy advisory firms over the years. While the Allergen situation has taught us that overly-aggressive defenses can backfire, boards need to be able to defend their companies from opportunistic attacks.
- Preparing for an activist attack. Companies need to be prepared to react if an activist comes calling. Companies should assemble an activist response team, which may include a small team of corporate officers, legal, financial and proxy advisors and investor relations personnel, to develop a plan for dealing with activists. Having a game plan in place that addresses various scenarios will lead to a more thoughtful, effective and timely response.
- Knowing and engaging your shareholders. Companies need to understand the breakdown of their shareholder base and monitor trading of the company’s shares. Companies also need to reach out to significant shareholders. This is not only a good way to find out what they want and get their perspectives on the company, but also helps build credibility and stronger relationships. In addition to cultivating relationships with major investors, companies need to continually and effectively communicate their business strategies and plans for value creation to the marketplace, as well as to smaller, but potentially more vocal, investors. Companies should also be taking advantage of the power of the Internet by making sure their Web sites are up-to-date and fully communicating the company’s message. And companies should be actively monitoring shareholder concerns and opinions that are expressed through blogs and other shareholder forums and proactively responding to shareholder issues before they escalate.
- Determining director involvement. As part of shareholder engagement, companies need to determine whether, and to what extent, directors should be communicating directly with shareholders on the company’s behalf. At least 1,000 U.S. public companies received a letter earlier this year from the Shareholder-Director Exchange (SDX) asking boards to consider formally adopting a policy for shareholder-director engagement.5 The SDX also adopted the SDX Protocol, which provides guidance for public company boards and shareholders when developing an engagement practice or policy. Whether or not your company received this letter, director engagement is important to investors. According to a recent survey, 66 percent of directors communicated with institutional investors this past year and 29 percent reported that their board interacted with activists this past year.6
This post was excerpted from our annual Top 10 Topics for Directors in 2015 alert. To read the full alert, please click here.
1 Ronald Orol and Paula Schaap, “Tracking the Risks and Rewards of Activist Campaigns,” The Deal Pipeline (Oct. 17, 2014).
2 Juliet Chung and David Benoit, “Activist Investors Build Up Their War Chests,” The Wall Street Journal (Sept. 11, 2014).
3 Id.
4 Joseph Cyriac, Ruth De Backer and Justin Sanders, “Preparing for Bigger, Bolder Shareholder Activists,” McKinsey & Company (March 2014).
5 See The Shareholder-Director Exchange letter dated July 2, 2014, located at http://www.sdxprotocol.com/wp-content/uploads/2014/07/SDX_Investor-Letter.pdf. The SDX Working Group includes representatives from some of the world’s largest institutional investors, which, collectively, manage over $10 trillion in assets.
6 PwC’s 2014 Annual Corporate Directors Survey, at p. 25, 45.