Activist investors have been storming the Boards of top US listed
companies, and bringing about sparkling changes. The developments have
phenomenal significance for India – more of that a little later. But first
about the developments pertaining to activist investors in the US.
A report in The
Economist praises the efforts of activist hedge funds in improving
governance among listed companies in the US. Such entities acquire “small
stakes in firms and act like political campaigners, trying to win other
shareholders’ support for their demands: representation on companies’ boards,
cost-cutting, spin-offs and returning cash to shareholders”.
“Activists run funds with at least $100 billion of capital, and in 2014
attracted a fifth of all flows into hedge funds,” according to the report. “Last
year they launched 344 campaigns against public companies, large and small. In
the past five years one company in two in the S&P 500 index of America’s
most valuable listed firms has had a big activist fund on its share register,
and one in seven has been on the receiving end of an activist attack.”
Among the achievements of activist investors listed by the report are:
·
Trian Fund
Management, led by activist Nelson Peltz, secured a Board seat at Bank of New York Mellon in December 2014.
·
The Economist’s analysis of the 50 largest activist positions in America
since 2009 has shown rise in profits, capital investment and R&D in many
cases.
Ram
Charan, Michael Useem and Dennis Carey list out the
following achievements of such activist investors in their article, Your Board Should Be Full of Activists in Harvard Business Review (February
2015):
· Backed by institutional investors, Starboard
Capital ensured the exit of the entire Board of Directors at Darden Restaurants
over a spin-off issue in 2014.
· In 2012, a similar development took place at
Canadian Pacific Railway.
Ram Charan is a business
advisor to CEOs and corporate Boards, and co-author of the book, Boards That Lead, with Dennis Carey and Michael Useem. Useem is Professor of Management and Director of the Center for Leadership and
Change, Wharton School, University of Pennsylvania, while Carey is Vice Chairman of Korn/ Ferry International and
specializes in the recruitment of CEOs and corporate directors.
In their report, Preparing for Bigger, Bolder Shareholder Activists, Joseph Cyriac, Ruth De Backer and Justin Sanders of McKinsey, write, “Activist investors are getting ever more adventurous.
Last year, according to our analysis, the US listed companies that activists
targeted had an average market capitalization of $10 billion -- up from $8
billion just a year earlier and less than $2 billion at the end of the last
decade. They’ve also been busier, launching an average of 240 campaigns in each
of the past three years -- more than double the number a decade ago.”
The support of
traditional investors has been increasing the clout of activist investors. “The backing of the traditionalists like Vanguard
Group is often giving activists like Trian — the latter with just 2.7% of
DuPont’s shares — the extra clout they need,” write Charan, Useem and Carey.
“Vanguard holds more than $3 trillion in assets, making it the equivalent
of the world’s fifth largest country in GDP, ahead of France. Along
with its heavyweight brethren like Fidelity and Blackrock, it packs
enormous punch. Vanguard owns some 5% of most publicly traded companies in the
US.”
In
their article,
How to Outsmart Activist Investors
(May 2014), Bill
George, Professor, Management Practice, Harvard Business School and Jay W Lorsh, Professor, Human Relations, Harvard Business School, write, “We
remain unconvinced, however, that hedge fund activism is a positive trend for US
corporations and the economy; in fact, we find that it reinforces short-termism
and excessive attention to financial metrics. But because activists -- and the
institutional investors who often follow their lead -- are generating positive
returns, there is likely to be more rather than less of it in the future. In
the interest of their corporations, CEOs and Boards should be preparing for
activist interventions rather than complaining about them.”
They
cite examples such as that of Indra Nooyi, Chairperson and CEO, PepsiCo, who
managed such activist onslaughts well. With her ‘Performance with Purpose’
strategy, Nooyi had, among other things, introduced a couple ‘good for you’
products in the PepsiCo range.
Before proceeding further on
activist investors, it is pertinent to say a few words about a book which
delves into the concept of ‘Performance with
Purpose’. The book is Jim Stengel’s book, Grow: How Ideals
Power Growth and Profit. “Maximum growth and high ideals are not
incompatible,” says Stengel. “They’re inseparable.”
As
for tackling activist investors, George and Jay present several options, which
could be considered by managements and Boards.
Joseph, Ruth and Justin
of McKinsey identify the weak spots
which could trigger an activist attack. 1. under-performance relative to
industry peers, rather than absolute declines in performance; 2. large cash
balances and recurring restructuring charges; 3. executive compensation; and 4.
a gap in consensus earnings.
Charan, Useem and Carey urge
companies to “renew their Boards before an activist changes it”.
The three experts
quote Raj Gupta, former CEO, Rohm and Haas, as saying that the Board and top
management “should think like an activist”. With an “outside in” view of the
company -- rather than an “inside out” view -- directors should pose the same
questions that an activist investor would ask, according to Gupta. “Is the
company’s portfolio too complex? Is management top-notch? Is the cost structure
too high? Has the firm missed an inflection point?” Gupta was also on the Boards
of Delphi Automotive, Hewlett-Packard, Tyco and Vanguard.
The advice is more
relevant for India, where 77 of the 155 BSE-200 companies (excluding
banking and financial ones) have either reported a decline in their market
value since March 2008 or the rise in
market capitalisation has lagged the increase in capital employed in the business,
according to a report in Business Standard (February 2014).
“In all, since 2007-08, the 155 BSE-200 companies in the sample have together
destroyed over Rs 22 lakh crore of shareholder wealth, or nearly 46 per cent of
their combined market value in January 2014. The figure would shoot up by half,
to nearly Rs 35 lakh crore, if the figures for IT, pharma and FMCG companies
were excluded.”
