How To Handle an Activist Investor
Their advances may not always be welcomed by targeted companies, but activist investors share the same goal with management of generating value for shareholders.
The differences between the two sides tend to lie in what strategy is used to achieve that goal. Sometimes those differences are ironed out behind closed doors, other times via proxy fights at shareholder meetings, but the clout of an activist investor is something corporate America can no longer afford to ignore.
“It’s really a sea change from a decade or sixteen years ago where the marching orders were you ignored them” said attorney David Katz of Wachtell, Lipton, Rosen & Katz who advises firms on how to deal with activists. “The best thing one can do is to have a game plan in place looking at the same things the activist is looking for.”
What activist investors look for is to unlock value at companies. Their concerns typically center on non-core assets they want firms to sell because they see them as a drag on the stock. Or the activist might think the company’s strayed from its core strategy, or poor governance issues like excessive executive pay is hurting the firm’s long term performance. Advisors to companies and activists, who declined to be identified, say about half of the time, these differences are settled behind closed doors. Less often, but more memorably, the activist take their concerns public. The result can be an expensive proxy fight that may be disruptive to employees and a company’s business.
To avoid this, experts say establishing a good offense is critical to having a good defense when a big shareholder like a hedge fund starts accumulating shares in a company and talking about the changes they want the firm to make.
Lawyers, crisis managers and corporate advisors agree the first thing a firm needs to do is make sure they have an open and ongoing dialogue with their other, large institutional shareholders. If management knows what their concerns are and has been addressing them over a number of years, its less likely a mutual fund or a pension fund will side with an activist solely because they feel they have been ignored.
“You don’t want a contentious public situation ” said Innisfree Chairman Arthur Crozier. Crozier, whose firm handles public relations for companies targeted by activists, said knowing its investors base is critical to helping a company win any proxy fights.
It’s also critical a firm get ahead of the problems an activist investor may highlight, advisors who declined to be identified said. Management needs to have already explored potential asset sales, stock buybacks, changes in strategy or changes to corporate governance before the activist focuses in on them. Management then needs to share with its board and big investors why it did or did not take action on these issues before the activist starts bringing them up. That way the company does not start out on the wrong foot, looking defensive and unprepared.
One company experts cited as having completely misread their shareholder base is Regis Corporation. Last summer, the activist hedge fund Starboard Value LP said it would nominate a slate of three directors to the company’s board. Starboard wanted the operator of hair salons to cut costs and sell non-core assets, issues Starboard said were masking the firm’s true value. The company’s case for its current strategy fell on deaf ears and more than 70 percent of its investors voted for Starboard’s nominees. The vote gave Starboard a mandate and marginalized management.
A firm cited as failing, then succeeding in handling activist investors is Home Depot . Back in 2006, San Diego based Relational Investors threatened a proxy fight as the home improvement retailer declined its request to explore strategic alternatives including the sale of the builders supply business. Relational’s move came at a time when shareholders were becoming increasingly angry about the compensation paid to former CEO Bob Nardelli. Nardelli had been awarded stock options valued at over $500 million dollars when he came over from GE , but the lackluster performance of the company’s stock and his management style were making investors restless. Nardelli was fired in January of 2007, and two months later, before the annual meeting, Home Depot agreed to place a Relational nominee on its board. Home Depot sidestepped what could have been an extended period of bad press for the firm.
Harvard Business School’s Jay Lorsch said activist investors can be a positive for corporate America because they can “put some discipline in the system”. He said activists help to keep management on their toes. Still, he said there is a downside. If an activist is just trying to turn a quick buck, instead of generating long term value, Lorsch said this can take away from the long term vision of the company, as well as value from their shares.
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