Neil Stewart sums up IR Magazine’s 11th West Coast Think Tank
Shareholder activism shows no signs of letting up, especially with the fertile ground of high corporate cash holdings, strong investor risk appetite and heady equity market valuations drawing attention to companies with even the slightest of limps.
In response to shareholder activism, or just in efforts to pre-emptively avoid becoming a target, US companies are returning mountains of cash to investors through buybacks and dividends. ‘Companies that may not have debt are levering up and then repurchasing stock or increasing dividends, sometimes quasi-collateralized with offshore cash,’ as one think tank panelist pointed out. ‘In a low but rising interest rate environment, the financing market is as active as ever.’
One session at the think tank broke down other dynamics apparent in today’s activist environment:
-Activists are accelerating their use of social media, from Carl Icahn’s notorious, market-moving tweets to a new activist player staging an online poll asking people to guess what its next target might be
-Mainstream backing and deep pockets mean new activist campaigns are coming at high velocity and even the largest companies are possible targets
-Many – though thankfully not all – activists are more aggressive in nature and even more willing to go public
-Shareholder activism is more legitimate and accessible. The battle for proxy access, now all but won by pension funds and other proponents, parallels ground-level activism in that it underlines shareholders’ new-found unquestioned right to get inside the boardroom.
Most IR professionals now understand the spectrum of activism but only a few of the dozens at the think tank boasted of having done any kind of activism fire drill. What would they do in an activist situation, from the initial response all the way to a proxy battle or settlement? Participants discussed the possible scenarios and responses around three milestones in many activist situations:
1. An activist, who may or may not be a shareholder, approaches your company requesting a meeting with the CEO
2. An activist files a lengthy 13D or makes a public critique of the company
3. An activist nominates a slate of directors for election at your annual meeting.
Session leaders pointed out that when activists strike, it is increasingly important to have good relationships with passive index funds, which hold more sway now than ever (see Trendwatch town hall, below). ‘Think about natural times you can engage them even before there are any warning signs – for example, with mini-roadshows,’ one suggested.
One IRO, recalling her run-in with an activist, said the feedback from investors showed it was evident her company had a lot of people working on every press release, in contrast to the tight communications of the activist. She added that IROs need to have the support of the executive team in any discussion with the rest of the advisers, especially if they have to deliver negative feedback.
The fad for returning cash
A later discussion about cash return turned out to be highly prescient considering BlackRock chief Larry Fink’s letter to chief executives a week later, which suggested that such a huge volume of buybacks and dividends is coming at the expense of long-term-oriented investment in R&D, jobs and growth.
‘Capital allocation has been a big part of our story,’ commented one IRO from a company that has been through a turnaround. ‘We have a returns-based framework that looks at buybacks, M&A, capex, R&D, and so on. It resonates well with investors and gives credibility to management and the board. It’s a constant balancing act, but investors view us as much better stewards of capital now.’
Trendwatch town hall
Market intelligence firm Ipreo looked at changes in the markets and asset management to give a sense of the state of IR today and where it’s headed.
1. Market structure changing
A year after publication of the book Flash Boys, a close look at high-frequency trading (HFT) finds it’s creeping up for small caps but easing off for large caps, drawing the two groups’ average ‘institutional capture rates’ closer. In fact, Ipreo saw reduced HFT well before Flash Boys as market volatility – from which HFT feeds – dissipated.
2. Decreasing equity correlations
Market-wide risk on/risk off swings have become less of a force, with more divergence even within industries. ‘It might actually be a stock picker’s market, which is music to IROs’ ears,’ Ipreo said.
3. Declining new issuance
After a record year for IPOs in 2014, they plummeted in Q1 2015. The result for most issuers is that there’s less competition from the deal calendar, so there’s more room in the market for secondary issuance or even just routine communication with the Street.
4. Expectation of higher interest rates
When an interest rate rise will happen is subject to a lot of speculation; so is the likely impact on equities. High dividend payers will get hit, presumably, but over the last six years periods of higher rates had no clear effect on flows in and out of income funds.
5. Expansion of ETFs and a shift to passive investment
The pendulum just keeps swinging the same way, especially considering active managers have been underperforming in a rising market. The result is that shareholder bases are more concentrated and big index and exchange-traded fund (ETF) managers like BlackRock and Vanguard have a strong say during proxy season. The continuing expansion of ETFs also means greater liquidity for issuers that are part of major indices.
6. Shareholder activism continues to attract assets
The climate for raising money for activist campaigns has never been better. As activists keep attracting large sums from large institutions, they need larger target firms to deploy all the capital, though most of the targets are still small companies.
7. Increased active portfolio concentration
Strong markets mean active managers need to separate themselves further from benchmarks in a bid to outperform passive investments. IROs benefit because their higher conviction positions have more homework behind them and the typical buy-side analyst’s coverage universe should be reduced.
8. Expansion of liquid alternatives
Unlike short-selling hedge funds, mutual fund companies that create long-short funds have to list short positions in their usual public disclosures. The result for issuers is a narrow but growing window on their short interest.
This article appeared in the summer 2015 print issue of IR Magazine