Shareholder activists are making their presence felt in new ways. As more types of funds make their voices heard in corporate boardrooms, companies of all sizes are being forced to prepare for the possibility of an activist approach. New factors, such as calls for a greater emphasis on environmental, social and governance (ESG) issues, are changing the game as well.
Mergermarket on behalf of Toppan Merrill spoke with four experts on how shareholder activism will impact dealmaking in 2019.
Toppan Merrill question: Some new types of funds have started taking activist stances, such as mutual funds. Do you think more such funds will begin using activist tactics? What is driving this trend? Leading industry experts weigh in...
Aneliya Crawford, Schulte Roth & Zabel says: I think the underlying movement in this direction is based on the fact that there is an enormous flood of money into passive portfolios. That creates tremendous pressure on actively managed funds, including a very broad range of mutual funds and other types of investors, to generate high returns and to show potential investors how their investment philosophy is different and how they're able to deliver those high returns.
What we hear from a lot of our investment fund clients is that they're under pressure from their limited partners and investors to become more active in their engagement with companies. They’re also being pushed to apply pressure on companies to pursue certain strategies or rectify obvious problems or take advantage, for example, of a very hot M&A market – whatever the case may be. The passive funds have also become more vocal. The ownership that these fund managers have in public corporations in America and the world has increased dramatically – they decide the destiny of a huge number of corporate votes. I think this circumstance has driven observers to argue that they have to take a more proactive approach at policing poor corporate governance, for example, or complacency on the board, or whatever other issues there may be. It seems logical that if you're such an important player, you have to take your role seriously and do something to improve those companies.
Now, the other part of your question is whether mutual fund companies will engage in the type of activities that a traditional activist would, and I would not expect that to happen. The first and most self-evident reason for this is that it takes a lot of resources to be able to organize a campaign. It's hard to imagine that some of these mutual funds, who are already very leanly staffed, would have the resources to do the in-depth analysis that is required to run a campaign. Some of them are invested in basically every corporation out there, so it’s nearly impossible for them to focus their investment thesis on any one particular company and spend the money to implement change in that company.
Professor Minor Myers, Brooklyn Law School adds: The drivers of activism as an investment strategy are simple: It’s high-profile work, and the returns can be very attractive. So it’s not surprising to see existing funds dipping their toe in activist strategies or to hear of managers trying to raise new activist-focused funds.
For any particular manager, the question will be whether that manager is successful with the strategy and whether that success is sustainable. Like anything, there will be some flameouts. Activism is harder than it may look to a lot of people and requires that managers do many different things well. First, research and analysis: find a firm in need of an activist intervention, a task of increasing difficulty thanks to new managers. Then, armed with an investment idea, the manager has got to have the operational know-how, the resources, and the grit to get the job done. Every activist manager has to be prepared for the long game: the hard work of confronting potentially hostile incumbents, running a proxy contest, securing some measure of control, and implementing the activist’s agenda.
In this sense, activist investing is like distilling whiskey. It’s expensive, it’s hard to do it well, and it can take a long time until you know if it’s been successful. But for those who are able to do it well, the rewards can be huge. Many funds may say they’re activists, and allocators may be looking to increase their exposure to the strategy, but it’s a hard strategy to sustain. Time will tell how many of today’s activists can thrive in the long-term.
Professor Claire Hill, University of Minnesota Law School weighs in: The big mutual funds aren’t able to readily “vote with their feet.” They are stuck being invested in companies, so they may as well try to improve them. That appears to be driving them to be less passive than they had been. As they are enlisted by traditional activist investors, they get more involved in appraising and potentially weighing in on what the corporations they have positions in should be doing. Going further than that is a more complex matter, and the extent to which more traditionally passive investors get into the activism business is very much open to question. Certainly, having huge portfolios of many different companies limits the resources you can devote to individual investments unless you are prepared to ramp up significantly.