Shareholder activism

Ready, set, dough

Activist investors are limbering up to make trouble once more

Dec 2nd 2010 | NEW YORK | from PRINT EDITION

FOR the past two years activist investors have been strangely quiet. The financial crisis slashed the value of their equity investments. Many scaled back or even closed shop. But there are signs that shareholder activists, who take stock in a handful of companies and press them to change their inefficient ways, are finding their voices again.

On November 23rd Carl Icahn, a particularly bold member of the breed, and Seneca Capital, a hedge fund, blocked a $4.8 billion buy-out of Dynegy, an energy company, because, they said, the price was not high enough. Their boardroom victory scuppered what would have been one of the largest buy-outs of the year. Company bosses are now looking around nervously, wondering which other activists may re-emerge from the shadows.

“The environment for activism is more attractive than it’s ever been,” says a hedge-fund executive. Companies have been hoarding high levels of cash: American firms are sitting on nearly $1 trillion. Activists are lobbying them to buy back shares and pay dividends to shareholders. For example, Trian Partners, a large activist fund run by Nelson Peltz, is pressing Family Dollar, a retailer, for a buy-back.

Activists are benefiting from an uptick in mergers and acquisitions and a thawing of the credit markets, which make it easier to find buyers for parts of the companies in which they invest. Alberta Investment Management Corporation, a Canadian pension fund, and Jana Partners, a hedge fund, have pressed TNT, a Dutch mail and shipping company, to break itself into two. William Ackman of Pershing Square, an activist hedge fund, has built up his stake in Fortune Brands, a conglomerate with interests ranging from golf to spirits to home furnishings, and may try to force it to sell some of its parts.

Following the financial crisis, attacks by activists on executives’ lavish bonuses and murky corporate governance may get a more sympathetic hearing from other shareholders. Regulation will also help. America’s new financial-reform bill contains a “say on pay” provision, which allows shareholders in all types of company to weigh in on executive compensation. The Securities and Exchange Commission is also trying to make it easier for shareholders to nominate people to boards of directors. Its implementation has been delayed by a lawsuit brought by the Business Roundtable and the Chamber of Commerce, two business groups.

In the past companies have condemned activist investors for focusing on short-term profits. But the relationship is becoming a little less adversarial. Corporate bosses now put more emphasis on communicating with shareholders and hearing their views on strategic changes. “Companies have been under so much pressure. Now you can walk in the door and just have a conversation about what to do to make the company better,” says Harlan Zimmerman of Cevian, a large European activist hedge fund.

In turn, some activists are becoming more diplomatic. Instead of publicly denouncing a company’s managers as a bunch of value-destroying nitwits, they are quietly negotiating with them. Damien Park of Hedge Fund Solutions, a firm that advises on shareholder activism, estimates that around 30% of activist campaigns are now fought behind the scenes. Many people expect that proportion to increase. Activists are also toning down their attempts to get companies to take on more debt. Many were burned before, and are reluctant to put their hands back in the fire.

Activism is becoming mainstream. Relational Investors, a hedge fund, worked with CalSTRS, California’s state pension fund for teachers, to fight against overgenerous executive pay at Occidental Petroleum, an oil company. Joining forces with a pension fund “gives the project a legitimacy, because you have an investor who’s a permanent investor”, says Ralph Whitworth, the boss of Relational Investors.

It is one thing for companies to decry the hostile advances of hedge funds. It is much harder to demonise pension funds, which are trying to preserve the value of retirees’ savings. Such double acts may find themselves less vulnerable to the reputational attacks that hedge funds often endured before the financial crisis. Making trouble has never been so much fun.