In this article, we delve into the nature of activist investing, the tactics employed by these investors, and their perceived benefits and drawbacks to the companies.
Trading Strategies
February 17, 2024
In finance, the role of activist investors has become increasingly prominent and polarizing. These stakeholders, wielding significant influence and resources, seek to challenge the status quo within publicly traded companies, advocating for changes that they believe will enhance shareholder value. However, their methods and motivations have lit debates regarding their impact on companies and other investors alike.
From the confrontational strategies of hedge funds to the more nuanced approaches of individual activists, such as Bill Ackman and Carl Icahn, the spectrum of activist intervention is wide-ranging and complex.
An activist investor, whether an individual, private equity firm, or hedge fund, aims to acquire a 5% interest or more in a target company to enact significant changes, such as influencing management decisions, selling assets, decreasing payrolls, or restructuring. Effectively, they want to create a more profitable company so they can benefit themselves from share price increases and return of capital in the form of stock dividends or stock buybacks.
Activist investors are shareholders who seek to instigate change within publicly traded companies by directly engaging or pressuring the board of directors, bypassing traditional channels.
While perceived by some as corporate raiders due to their confrontational approach and short-term profit focus, activists often target underperforming firms, aiming to overhaul strategies, management, or governance.
Despite criticisms, evidence suggests that targeted companies often see improvements in share prices and performance following activist intervention. One prominent example is Salesforce, which saw a price retreat of 60% before gaining activist support. A year after an activist bought their way into the company, the stock price had risen 40%, according to LevelFields AI, which tracks and analyzes activist events.
Warren Buffet's assertion that well-managed companies seldom attract activists underscores the need for companies to prioritize strong performance to deter activism.
Not every activist investor is created equal. Some are more effective at instituting changes through proxy battles or Board influence than others. Some have better strategies than others. Nelson Peltz is currently engaged in a large battle at Disney to make changes that not everyone at Disney agrees with.
Sometimes, CEO's have to spend a lot of their time addressing the needs of activists like Peltz. This can be a huge distraction and keep the CEO from effectively managing his/her day to day duties, which in turn can negatively impact a company.
Activist investors, as evidenced by research by Enrique Schroth, Rui Albuquerque, and Vyacheslav Fos, do indeed create value, with their campaigns typically leading to a 4.75% increase in share value on average. The value stems from various avenues such as enhancing growth, improving operational efficiency, refinancing, governance improvements, or prompt change implementation.
Other studies conducted by LevelFields AI, a data analytics company that tracks events related to activist investors and other types of stock events, found that the mere announcement of a select group of elite activist investors results in an average 1-day share price movement of 4.8% and far greater returns for longer holding periods. The study notes, however, that returns vary depending on the sector and industry or the target company, as well as the state of the company's financials.
Companies often heed the calls of activist investors due to their ability to exert pressure on management and affect changes within the company, whether by demanding alterations in strategy or even replacing top executives. These investors, exemplified by figures like Carl Icahn, leverage their significant ownership stakes to demand attention and media coverage, pushing for actions they believe will enhance shareholder value.
The media attention puts pressure on the Board of Directors to do something, and often the activists influence the shareholders to enact reforms by voting out the CEO or Board Members, or adding activists to the the Board of Directors. This type of move, often known as a vote proxy battle, put real institutional power in the hands of the activist investor.
Activist investors have become increasingly prominent in recent years, with a significant impact on public companies and corporate governance. According to a survey, nearly three-quarters of CFOs have encountered shareholder activism, often resulting in major business changes such as share repurchases and leadership alterations.
This trend, influenced by factors like the financial crisis and regulatory changes, indicates a need for CFOs to proactively engage with shareholders and address potential financial issues that might attract activist attention.
Understanding the nature of activism is crucial; studies show that activists often hold investments for over two years and engage in primarily friendly interactions with companies.
Furthermore, activist campaigns vary widely in objectives and tactics, spanning industries and targeting companies with strong cash flows, low dividend payouts, recent underperformance, and other specific characteristics.
Shareholders prefer activism primarily to influence corporate decisions and bring about desired changes within or for the company.
Whether holding a significant equity stake or not, activist shareholders aim to impact a company's behavior through various means, such as submitting shareholder resolutions, engaging in proxy fights, conducting publicity campaigns, negotiating with management, or even resorting to litigation.
These actions may be driven by both financial motives, such as cost-cutting or restructuring, and non-financial objectives, including promoting socially responsible practices.
While activism can be effective in engaging public attention and achieving shareholder goals, it often entails challenges like high costs or resistance from other shareholders, making negotiation or litigation sometimes unavoidable but less desirable options due to their expenses and potential negative repercussions.
In 2023, activist investors saw a robust resurgence with a notable average return of 20.2%, rebounding from the previous year's average loss of 16%. This comeback was fueled by a stronger equity market and shrewd stock selection, prompting increased interest from investors and newcomers alike in employing tactics pioneered by seasoned activists such as Carl Icahn.
Notable performers included ValueAct Capital, reporting a 39% return, and Pershing Square Holdings, with a 27% gain. Other firms posted gains that were less pronounced and included a mix of regular investments. Without a platform that specifically tracks activists, it's difficult to discern the outcome of activist efforts within the larger funds.
Despite trailing behind the S&P 500's 24% gain, the activists' performance was notable, signaling a resurgence in activism with a record number of campaigns globally in 2023. Major companies targeted included Walt Disney, Salesforce, Bayer, Clear Channel Outdoor, Forward Air, and Overstock.com (acquired by Bed Bath & Beyond).
The success rate of activist investors in targeting CEOs and senior management has become increasingly notable, with over 30 campaigns during the 2023 proxy season resulting in a nearly 25% success rate, according to FactSet data. This trend underscores a widespread strategy where activists aim to replace CEO directors, demand leadership refreshment, or criticize excessive compensation while highlighting management's failure to address company problems.
Instances such as Carl Icahn's campaign at Illumina Inc., targeting CEO Francis deSouza over an acquisition decision, exemplify this approach, with deSouza ultimately resigning from the board despite surviving the proxy vote.
While seeking to remove a CEO director remains a bold tactic, it reflects the growing assertiveness of activists in holding management accountable and protecting shareholder value in today's landscape of shareholder activism.
The rise of shareholder activism presents both risks and opportunities for companies and their boards of directors. Activist shareholders, driven by a desire to maximize shareholder value and address perceived neglect of environmental, social, or governance issues, can disrupt management plans and cause reputational damage, potentially leading to changes in control.
However, this activism also offers companies the chance to identify areas for improvement, enhance shareholder value, and strengthen corporate governance.
To navigate these complexities, boards must understand potential activists, their goals, and build relationships with shareholders, all while maintaining a proactive plan to respond to activist campaigns.
This trend was exemplified in 2023 by cases such as Engine No. 1's successful proxy contest against ExxonMobil and Third Point LLC's victory over Walt Disney Company.
Activist investing involves shareholders exerting influence to enhance value within a company, employing various strategies such as operational improvements, governance restructuring, M&A initiatives, balance sheet optimization, and ESG advocacy.
These tactics, exemplified by influential figures like Carl Icahn and Paul Singer, aim to reshape company direction and practices to drive shareholder returns. Successful campaigns, like Starboard Value's overhaul of Darden Restaurants or Bill Ackman's transformation of Canadian Pacific, illustrate the potential for activist initiatives to boost performance and shareholder value.
However, such activism can also introduce disruptions and conflicts, posing risks to company stability and long-term interests.
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