The term “shareholder activism” can sometimes send a shiver down your spine and conjure up all kinds of unwelcome events – unhappy shareholders, proxy contests, shareholder proposals, 13D filings and withhold vote campaigns, to name just a few.
I recently moderated a NIRI Virtual Chapter webinar on “Shareholder Activism Trends.” The participants, consisting mainly of IROs at mid- and small-cap companies, were polled on several questions. The first question was, “Do you have a detailed plan in place for dealing with shareholder activism?” The majority answered “no.”
It may not be feasible to have a detailed plan for dealing with a threat that can take so many different forms. The lawmen and bandits who fought it out at the infamous O.K. Corral in 1881 had no idea how the showdown would play out – and neither will you if your company becomes an activist’s target. But that doesn’t mean you can’t be prepared. Here are four steps.
1. Stay Out of the Crosshairs.
Avoid being a target in the first place. Companies become vulnerable to shareholder activism for predictable reasons. The first is poor stock performance. Low multiples to EBITDA, EPS or cash flow compared with historical levels and/or with a company’s peers are red flags for activism.
Companies also become vulnerable when they change their capital allocation strategies, but fail to build understanding and support for the change with shareholders. Activists tend to target companies where a transaction such as a spinoff or accretive acquisition might add value – especially in cases where the board has decided to buy back or retire shares instead, delivering a lower perceived return on capital.
Excessive board and management compensation is another source of vulnerability, as are perceived deficiencies in board expertise, directors with little or no skin in the game, lack of independence, low turnover and a record of indifference when it comes to holding management accountable for underperformance.
2. Keep Your Friends Close . . .
Build strong relationships with your major shareholders. It’s critical to maintain a good understanding of your institutional shareholder base, and to keep your investors happy by providing them with excellent “customer service.” The seeds of activism are often planted when longtime shareholders become dissatisfied. Stay plugged into your investor base so you can respond quickly and intelligently when someone becomes unhappy.
An early, preemptive response can ward off bigger trouble down the road. Dissidents do their homework. They talk and seek advice from one another from before they start a campaign, as well as during and after. For example, activists are encouraging each other to capitalize on quarterly earnings conference calls to identify other “kindred spirits” who they can recruit to their side. Providing a rapid, early response to an unhappy shareholder can prevent dissidence from spreading.
3. . . . And Your Adversaries Even Closer
Relationships between activists and institutions are becoming more complex. Activists typically go through a period of dialogue with a company’s large institutional investors before they move forward. They also tend to work in groups, or “wolf packs,” that share information. Conversely, buy-side firms are increasingly employing hedge funds to camouflage dissident positions of their own. By continually networking with your large investors, you can more effectively identify and keep tabs on the dissidents in your shareholder base. It’s critical to know who is working with – and on behalf of – whom.
Activists often seek potential sympathizers before they get involved in a position or initiate a proxy fight. They are looking for other players who buy into their agenda and may have a propensity to vote their shares in line with the dissident’s objectives. On the other hand, if a well-known activist takes a long position in a stock, other institutions may try to ride their coattails by establishing or expanding their positions. Again, the better your network, the greater your chance of hearing about these kinds of activities and nipping the consequences in the bud.
4. Be Quick on the Draw
If the gunfight looks inevitable, act promptly. Engage with the activist group and make your case respectfully but forcefully. Prepare thoroughly before speaking or meeting with an activist. Anecdotally, negative comments and nasty fight letters tend to be more harmful to management than to dissidents. Practice active listening. It’s not necessary to agree or disagree – establishing a dialogue is key.
Remain as matter-of-fact as possible. The discussion is about what the board and management believe is right for the company and its shareholders. Be careful about saying anything that could be construed as agreeing with dissidents about areas of nonperformance. These comments can be used against you.
As difficult as it may be, firing your weapon preemptively can sometimes be the best strategy. Be prepared to get out there first by aggressively making the case to your shareholders that the board is engaged and has the right strategy to maximize returns on capital over time. If it comes down to a proxy contest, it’s up to the company to prove to proxy advisory firms and institutional investors that adding new members to the board would not improve corporate performance. The activists have an advantage, because they don’t really have to prove anything beyond the promise of a fresh perspective.
Shareholder activism has become one of the hottest topics in IR during the past few years. However, being prepared for this unique kind of corporate gunfight is no different than many other aspects of investor relations practice. It’s critical to ensure that the company’s investment thesis is well understood, and that corporate messaging is credible, consistent and transparent. Being proactive in adhering to best practices in corporate governance is equally important, as is building strong relationships with institutional shareholders.
President and Partner