Activist Investor
An activist investor buys company shares to push for changes that boost shareholder value
What Is An Activist Investor?
An activist investor is an individual that acquires shares in a target company to pressure the company to put one or two of its representatives on the board who align with their vision for the company.
Activist investors look to change the target company by trying to work on the hidden value within a company, influencing managerial decisions, and changing management.
By having a representative or two on the board, the activist can directly monitor the board’s activities and deliberations while also having their voice, and strategic views heard at each board meeting.
Activist investors, within the past few years, have increased the pressure put on corporate executives and board members. In 2017, a record 226 companies worldwide were targeted by activist investors.
They look at buying stocks they view as undervalued and pressure management to make operational changes that they believe would raise share value and improve long-term growth. This could include increasing shareholder dividends or spinning off unsuccessful divisions of the company.
With the increasing activism, many get involved in the governance within an organization, often demanding board seats, replacing CEOs, and advocating specific business strategies.
When activists look to grow and control the target company's board, it leads to serious negotiations followed by an agreement or settlement between the activist and the target company.
Activists look for board members who are people on the payroll of the fund, such as the head of the fund or an industry expert. After seats on the board, their next most common demand is to increase the return on their investment through higher shareholder dividends.
Activism has often proved to help raise share prices and benefit shareholders. A study by Lucian Bebchuk, Alon Brav, and Wei Jiang of activist investments from 1994 through 2007 found that there was a five-year improvement in the operating performance of targeted companies.
Key Takeaways
- Activist investors acquire shares in companies to influence change and enhance shareholder value.
- They seek to unlock hidden value, alter management decisions, and secure board representation.
- Activists closely monitor board activities, share strategic views, and drive change during meetings.
- Their pressure can lead to positive corporate behavior changes, governance improvements, and increased share prices.
- Companies may respond differently; successful activists like Ackman and Peltz have driven transformations, but hasty changes can risk a company's future success.
Example of companies Targeted by Activist Investors
It changes company behavior and aims to make shareholders profitable by looking into issues that the board of directors and shareholders may face, such as compensation levels, proxy access, business performance, and more.
Activist investors aim to bridge the disconnect between the shareholders and companies on what their motives are and how they could impact shareholder interests.
Not all companies react positively to shareholder activism as they tend to take more of an “Old Guard” approach where they are not as open to criticism and shareholder involvement within managerial decisions, those who are considered more open to involvement are called “new school”.
Bigger companies tend to fall under the “new school” approach as they are more concerned about bad press and external factors that may impact their business. On the other hand, a smaller company that does not get as much press attention could choose not to take the advice.
Peloton
Peloton is an exercise and media company based in the U.S. Their primary products are Internet-connected stationary bicycles and treadmills, which enable monthly subscribers to take part in classes via streaming media.
The activist investors who had looked to fire the co-founder John Foley in early 2022 are now arguing that its new Chief Executive Barry McCarthy has failed to reform the company’s governance.
Blackwells Capital, a lead activist with a 5 percent holding in the company, threatens to pursue legal action if Peloton does not take a series of actions, including inviting bids for the company by companies like Adidas and Nike.
Shareholders have lost confidence in the management and governance of the company, with its stock price down close to 90% since August 2021.
Therefore, pushing for a sale process and an end to the super-voting stock, which carries 20 times the votes of ordinary stock, is distributed amongst higher management.
Kohl's Corp.
Kohl's is one of the largest chains of department stores in the United States, having close to 1,200 store locations across the country.
Kohl's shareholders voted to leave the company's board of directors intact after rejecting a proposal from activist investors led by Macellum Capital Management to take over the board and sell the company off to outside parties.
Macellum Capital Management had offered a highly qualified and independent list of nominees who they believed could have to take over the board.
Though after having all 13 board members re-elected. Kohl's suggested that the board was focused on running a robust and intentional review of strategic alternatives while driving shareholder value.
Though Maccallum Capital Management has warned that failure to find new board members could jeopardize a credible sale process being carried out because if share prices continued to drop, bidders for the business could reduce their offers.
Who are the most successful activist investors?
Activist investors look to affect the company's overall direction in a way that maximizes shareholder returns. Influential activist investors often help raise the price of the stock because of their reputation.
Such investors are often part of hedge funds and demand change in the organization in the name of shareholder democracy, which could entail pushing divestments or demanding a sale. If their requests are not catered to, they seek to change the higher level management.
Some examples of the most influential activist investors and their work include:
Bill Ackman
A prominent example of one of his activist campaigns occurred in 2016, when Bill Ackman and his firm Pershing Square Capital Management, which owned 10% of Chipotle Mexican Grill, demanded and got two seats for the board of directors who focused more on the marketing and food safety side of the company.
As part of the agreement, Ackman and his firm were not permitted to publicly announce the change in board members for two years, which was a long silent period than typical agreements.
In addition, the agreement also restricted Ackman from raising its stake above 12.9% within those 2 years. Over time, smaller-scale activists demanded more, as some were not satisfied by a voice on the board; they wanted multiple representatives.
Another example is Canadian Pacific, a railroad company in North America, where Pershing Square Capital purchased 14% of the stock.
After running a proxy contest to put up more seats on the board, they elected a new CEO who transformed the company to be one of the most profitable railroad companies in under 16 months, raising the market cap. From $8 billion to close to $25 billion.
Nelson Peltz
Unilever had named Nelson Peltz as its board member to involve him in the long-term strategy of the firm, given that he had a 1.5% stake in the consumer goods giant.
After delivering poor returns to shareholders, the company had been under scrutiny for years. The pandemic worsened the company's financial situation, and they could not bounce back from the stock market rally during the recovery from Covid lockdowns.
Unilever’s share price rose after the consumer goods company announced that Nelson Peltz was to become a board member at the company.
Unilever claimed Peltz would join the company as a non-executive director from July and serve as a member of the board’s compensation committee.
Peltz would play a pivotal role in driving Unilever’s strategy, operations, sustainability, and shareholder value for the benefit of all stakeholders.
Some other examples of well-known activist shareholders are:
- Carl Icahn – Founder of Icahn Enterprises
- David Einhorn – Founder and president of Greenlight Capital
- Dan Loeb – Founder of Third Point Partners
Advantages of Activist Investors
Activist investors play a crucial role in corporate governance and value enhancement. Their involvement often leads to positive outcomes for shareholders and the company.
1) Firstly, they drive accountability by demanding transparency in decision-making and financial reporting, helping prevent unethical practices.
Activists stimulate operational efficiency by advocating for cost reductions and operational restructuring, ultimately enhancing profitability.
They promote responsible capital allocation, pushing for dividends, share buybacks, or investments that align with long-term shareholder interests.
2) Secondly, activists act as catalysts for change, prompting adjustments in underperforming companies' strategies, management teams, or corporate structures. Their interventions can lead to improved strategic focus and increased competitiveness.
3) Lastly, activist investors instigate board effectiveness, pushing for appointing experienced and diverse directors who contribute to better governance.
Disadvantages of Activist Investors
One of the board’s primary responsibilities is to ensure that the company stays true to its mission and vision. In recent years, however, several activist fund managers have come in with no industry experience.
They have come to corporations with proposals for radical changes in organizational strategy.
Although oftentimes major changes are needed to help an organization grow, companies that allow outside activists to implement them could risk losing the commitment and engagement of their employees and customers.
An example of this happened at J. C. Penney in 2010 when Ackman, an activist hedge fund manager with no experience managing retail businesses, had elaborate plans for revolutionizing the retail sector.
His first order of business in 2011 was replacing Ullman as CEO with Ron Johnson, who was Apple’s senior vice president of retailing operations. He then changed J. C. Penney's pricing model, eliminating coupons and large markdowns.
The results were disastrous for the company and its investments, which declined by almost $500 million. The company later re-hired Ullman to take charge of the struggling company.
Because activists cash out their holdings shortly after their demands are fulfilled, many executives often question their commitment to the company's future success.
The risk is significant as new and hastily implemented initiatives can weaken a company’s competitive position and impact long-term shareholders' confidence.
It may also put companies in jeopardy in the event of an economic downturn because of the highly leveraged financing structures that most activists propose.
Conclusion
In conclusion, activist investors play a dynamic role in shaping the direction of companies they invest in. They use their influence to ask for changes that will make shareholders happier.
These investors, often linked to hedge funds, work hard to improve how a company works, change how it's managed, and sometimes want a say in the company's decisions.
While their efforts can lead to improved operating performance and higher stock prices, there are potential problems to watch out for.
Companies must be careful not to upset their employees and customers when they let outsiders have a say. They should stick to their primary goals.
Striking a balance between external influence and internal commitment remains challenging for activists and their target companies.
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