Hedge Funds

Activist hedge fund managers get board welcome

Stephen Foley
Jin Lee | Bloomberg | Getty Images

Activist hedge fund managers are sitting on a record amount of money to deploy against under-performing companies. They are targeting larger businesses than ever before, and they have never had so much success in securing what they want.

But if this year marks the triumph of activism, what do the activists do next?

The very presence of this particular breed of hedge fund managers on a share register used to prompt a company to put up the barricades. Now they are finding more directors receptive to the traditional activist ideas of returning capital, spinning off businesses and are even inviting activists' representatives on to the board.

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Jana Partners, the $8 billion fund run by Barry Rosenstein, launched five activist campaigns against US companies this year, all of which have resulted in change without so far resorting to a proxy fight for board seats.Safeway, the grocery chain, agreed to Jana's suggestion that it jettison under-performing stores, for example, and QEP Resources, an oil and gas explorer, acceded to demands to split itself in two.

"Good ideas usually win out over the long run," Mr. Rosenstein says. "What is changing is that more and more boards are seeing the inevitable outcome and skipping the perfunctory battle, and we benefited from that."

Institutional Shareholder Services calculates that 68 per cent of proxy fights for board representatives resulted in success for activists this year, and that does not include cases where the agitators were invited on to the board before launching a fight. The number was 43 per cent last year.

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Activists have an easier path to victory, now. Years of corporate governance campaigners chipping away have paid off and American companies maintain fewer of the staggered board elections that blocked change and fewer of the poison pill defenses that blocked activist stake-building. Activists also have the ear of the traditional large fund management groups, which are themselves pressing management to be more responsive to shareholder concerns.

For their part, and with notable exceptions, activists have been toning down the invective against existing managers and working harder to present credible plans and to propose serious board candidates.

"Activism in general has become more serious," says David Rosewater, partner at Schulte Roth & Zabel, who has advised several activist hedge funds. "Many activist situations never see the light of day or settle shortly after it becomes clear that the activist is serious about pursuing it. Settlements far outnumber proxy fights."

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There are very high levels of cash on corporate balance sheets, which plays to the activists' theme of optimizing capital structure

Bill Ackman's Pershing Square took its biggest ever activist position in July when it paid $2.2 billion for a stake in industrial gases group Air Products. Within three months Mr. Ackman had persuaded the board to retire its chairman John McGlade and give Pershing Square control over two directorships–all without uttering a negative word about the company.

Carl Icahn, whose lieutenants were invited this month on to the board of medical testing company Hologic, says: "People sometimes say that I'm not mellow, but we really try to get friendly when we are on boards.

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"Boards are starting to conclude, mostly because of the success companies have had when we got on the board, that we really help and ask, 'Why go through the fight?' Their attitude is changing."

Assets managed by activist hedge funds surpassed $90 billion in the fourth quarter, according to HFR, almost triple the total five years ago, giving these investors more firepower than ever. Returns, however, have been prosaic, even while global stock markets went on a tear, raising the possibility that improved governance across corporate America might have reduced the rich pickings once on offer.

Companies and their investment bank advisers are increasingly conducting "fire drills" for an activist attack, and in the process identifying strategic weaknesses that they fix even before a hedge fund shows up.

Mr. Ackman, in a speech while visiting the UK in the autumn, tipped Europe as a more lucrative ground for activism in the coming years.

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Japan is also attracting attention thanks to the climate of reform ushered in by Prime Minister Shinzo Abe. Dan Loeb's Third Point took $1 billion-plus stakes in Sony and SoftBank in 2013, though his overture to Sony suggesting it partially spin off its entertainment business was rebuffed.

Some smaller activist funds are focusing on smaller companies, where the reduction in Wall Street research coverage has been most acute. Cliff Robbins, founder and chief executive of Blue Harbour, which manages just under $2 billion, pitches his fund as a free advisory service to the companies in which it invests.

"Investment bankers don't wake up in the morning thinking, 'How can I help this $2 billion company?'" Mr. Robbins says.

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Others, however, see plenty of opportunity still in shaking up the largest corporations in the world. They cite the example of Apple, where a demand by David Einhorn's Greenlight Capital that the iPhone maker issue preference shares to investors was defeated in February but was quickly followed by the company announcing an extra $55 billion return of cash.

"There are very high levels of cash on corporate balance sheets, which plays to the activists' theme of optimizing capital structure," says Doug Braunstein, vice-chairman at JPMorgan Chase, adding that the rising stock market is also separating the wheat from the chaff and making under-performing companies more visible.

"We are actually at the beginning of a long-term sustainable level of activity. It is an attractive environment for picking potential targets," he says.

—By Stephen Foley, The Financial Times.