Some of the major activist hedge funds who have been in the “activist business” for a long time. Now include Carl Icahn, David Einhorn, and Bill Ackman, as well as Nelson Peltz who are often seen in the media. Other entrants in the business include David Einhorn, Ralph Whitworth, Barry Rosenstein, Jeffrey Ubben, and Jeffrey Smith
CalPERS and CalSTRS
Activist investors have played a huge role in establishing funds. And so are institutional investors who are starting to engage more in activism, such as CalPERS, and CalTRS who have become so active in the market recently. They are well aware that activism funds generate great returns. That they are encouraged to abandon the traditional buy and hold method and other investment strategies. Funds have started to establish internal departments to address activism issues. Institutional investors sometimes even interact with the activist to support each other and benefit from the trend.
Terms of Approach
Although activists go through similar transactions, they may still vary in terms of approach. Some are aggressive and public that they may launch an attack at a company through media saturation to pressure the target company’s management and board. On the other hand, there are those who announce ownership of shares discreetly, as well as demand from the company in a toned-down manner.
Aggressive activists also have a tactic of acquiring shares in the target and then pressure them to put one or two of its representatives on the board. This would make them be able to directly monitor the activity of management. As well as the deliberations made, allowing the activists to have a say in each meeting. One example of such an event happened in 2016. When William Ackman and his activist firm Perishing Square Capital Management which owned 10% of Chipotle. Then asked to get two seats on the board of directors. Ackman and his firm agreed not to comment publicly about this for two years. They are also restricted from raising their stake above 12.9% over that same time period.
Short Term Value
These investors and the target’s management and board have common interests but the former is really short-term value investors. The activist wants to bring this about as quickly as possible and with a different means. For instance, activists may want the company to be put up for sale immediately. While management may even agree that an eventual sale is a good idea but they may not think this is the right time.
Smaller companies used to be the targets of smaller companies, but the landscape changed in the years 2012-2014. Making large companies like Microsoft and Apple targets. The large activist funds can acquire a really large percentage of a smaller target’s shares and overpower the board and management. But all companies, big or small, are vulnerable to attacks by aggressive activists. Take Carl Icahn for example. He tried to invest billions in a large company’s stock (AOL TimeWarner). However, he had trouble as he could only hold less than 5% of the shares. Still, he got positive returns on his investment in the company.
Downsides and Benefits
When an activist obtains 5% or more of a company’s share, they usually prefer a brief 13G filing. However, this is difficult to take with the SEC considering the nature of the business. They take control of the companies and take actions that result in the sale of a firm. With that, they will more likely be required significant disclosure and updating under the requirements of 13D.
The fact that any company is vulnerable to activists’ attacks has its downsides and benefits. It can be good if it encourages managers to run the company for the sake of shareholders for a good return on their equity. Moreover, it pressures them not to accumulate assets. Just like large cash holdings without showing how these are better off staying in the hands of the company to the shareholders. However, the drawback is that companies may be hindered to pursue a long-term plan. That is feasible because of the pressures of activists which are usually short-term.
With larger funds and AUMs, larger companies are needed to produce significant returns. That is why activists started to pursue larger target companies. Even if they are challenging, it can be worth it as the larger AUMs demand that bigger prey be pursued.
Near-Term Exit Strategy
It is worth noting that activists are short-term investors. After acquiring a position in a company, they usually have a near-term exit strategy. Companies are pressured to immediately take action to make the stock price rise. It enables them to exit the investment at a profit. The bigger downside here is that they might be forced to sacrifice their long-term profitability and growth. Meanwhile, a public company is pressured to meet the near-term goals of the activist. The counter-argument of activists is that it was the company that has sacrificed their long-term profitability. Way back which only gave investors a chance to correct the problem as if they’re heroes and not bullies.
The Full Control of the Board
Over time, activists even want multiple representatives on the board of their target company. Sometimes, it even called for full control of the board. The type of people nominated to boards by activists can vary. They often are people on the payroll of the fund, including possibly the head of the fund. They also could be industry experts or people who have been employed in the industry for some time. Other times, the investor already has in mind. The people who can assume active management positions at the target company if their activism is successful.
Although the process seems aggressive, there is a give-and-take process occurring. The activist may propose three candidates that include the portfolio manager of the fund and two outside industry people. The company may come back and say it accepts the two outside people but does not accept the internal fund representative. This then can lead to negotiations and will be a function of the relative bargaining positions of both parties.
This board seat issue is the main focus in terms of the activists’ demands. After this comes the return of monies on the balance sheet to shareholders including the activists. Irrelevant in the activist battles are the staggered boards or poison pills where the activist is looking to accomplish its goals. That means by replacing just a few members of the board. If this is possible, then the majority control of the board may not avoid the activist from attaining its goals. Given that it’s complicated for the staggered table. Outside pressures also forced many companies to abandon their staggered boards.
© image credit to Oleg Magni