All Shook up: The Activist Investors
In their latest Corporate Finance Column for the Budapest Business Journal, Les Nemethy and Francois Lesegretain look at the role and impact of so-called activist investors.
No public company, no matter how large, is immune from possible attack from activist investors. Emmanuel Faber, CEO of Danone, for example, was ousted in March by two such groups: Bluebell Capital and Artisan Partners), as reported in theconversation.com.
Activist investors aim to shake things up. If their ideas are good, they can have the clout to change the course of a company in the right direction; conversely, they may threaten the long-term strategy of a company and destroy value. They typically manifest themselves when a company is underperforming.
In some companies, the power of management may be unchecked, to the detriment of shareholders. In widely held public companies, the possible threat of activist investors coming on board acts as an important check on the power of management, for better or for worse.
These highly engaged investors are sometimes portrayed as being of a certain state of mind, always scouring for opportunities to improve value, which is why the topic is relevant even for the management and owners of private companies. We suggest that every CEO should have the ability to view his or her company like an outsider, looking at his or her actions and company performance through the lenses of independence and objectivity.
In this column we look at what an activist investor is, what trends can be seen in their activities, what types of decisions they typically drive within companies and some evidence as to their effectiveness.
An activist investor is “an individual or group that purchases large numbers of a public company’s shares and/or tries to obtain seats on a company’s board to effect a significant change within the company,” according to investopedia.com. These are typically hedge funds, private equity funds, or wealthy individuals.
As shown in the chart below, activist investors more than doubled the capital deployed in their campaigns in six years, from approximately USD 25 billion in 2012 to USD 67 bln in 2018.
Interestingly, global capital deployed fell almost 40% from 2018 to 2019 and then stabilized in 2020, despite COVID-19. In Q4 2020, 57 new campaigns were launched by investors (up 128% from Q3).
In Europe, despite a big drop in activist campaigns during the first months of the pandemic, there was a 21% year-on-year increase in campaign activity in 2020, lazard.com says.
According to a survey done by law firm Skadden, only 3% of companies surveyed said their board had received no approach at all (either privately or publicly) from activists since the onset of the pandemic:
So, what types of decisions do activist investors typically drive within companies? Basically, anything that has the potential to increase the valuation of companies.
This could include: appointing a more effective and competent management team; changing strategy, including acquisitions, or divesting non-core assets; changing the capital structure; improving corporate governance and transparency; or cost-cutting.
One can see how a short-term bias might creep in, given that there might be a temptation to drive up stock price, to pump and dump, but then again, many shareholders have short-term objectives.
The difference is that activist investors are far more sophisticated and better-informed than the average shareholder, and may have one or more seats on the board, hence a greater ability to influence the direction of a company. Furthermore, they can mobilize the votes of passive shareholders.
Critics often accuse activist investors of burdening their targets with debt, cutting vital research and development budgets, blocking new investments and then making a quick exit as the consequences of their decisions blow up behind them.
But a study of 50 activist-held companies from 2009-2014 by Whalewisdom, Bloomberg, and The Economist suggests that this may be a myth, and that activist investors don’t have such negative effects. The study shows surprising improvements in R&D and actual decreases in leverage.
In a nutshell, activist investors may not always be the parasites that Hollywood sometimes portrays them as. When they invest in companies, their interests are usually aligned with other shareholders, and there are times when the desire to shake things up might be legitimate. Of course, as with French verbs, there are exceptions to every rule.
Les Nemethy is CEO of Euro-Phoenix Financial Advisers Ltd. (www.europhoenix.com), a Central European corporate finance firm. A former World Banker, he is author of Business Exit Planning (www.businessexitplanningbook.com) and a past president of the American Chamber of Commerce in Hungary.
This article was first published in the Budapest Business Journal print issue of May 21, 2021.
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