Institutional Investors Backing Big Activists – Bruce Goldfarb in Agenda
By Lindsay Frost
Institutional investors voted in line with big hedge fund activists in roughly 60% of proxy contests between July 2012 and December 2017, according to exclusive data provided for Agenda by Proxy Insight.
The new data point to the willingness of institutional investors to push companies for change in recent years. The data also show that proxy advisors can sway institutional investor voting in proxy contests.
Sources say institutional investors are often the swing vote in proxy contests, so boards need to regularly engage with their investors and clarify how they are changing their strategies to improve performance.
“Without proxy vote support from institutional investors, there would not be continued success from activists,” writes Bruce Goldfarb , head of proxy solicitation firm Okapi Partners , in an e-mail. “Most of the time, activists have convinced institutional investors that change is warranted at the company and those investors have carefully weighed the arguments on both sides and decided to vote with the activist.”
Proxy Insight compiled data for Agenda to show the support from institutional investors in proxy fights. The firm examined the proxy contest votes of 511 institutional investors who voted in U.S. campaigns spurred by top activists over five and a half years ending in December 2017. The list of activists was defined by Activist Insight for size, influence and other factors from 2017 and includes Carl Icahn, Corvex Management, Elliott Management, Jana Partners, Marcato Capital Management, Oasis Management, Starboard Value, Third Point Partners, Trian Partners and ValueAct Capital.
During the period studied, the hedge funds put forward an average of 12.9 dissident directors in proxy contests, and institutional investors supported, on average, 8.4 dissident directors.
For example, Nelson Peltz received public support from BlackRock, the California State Teachers Retirement System and State Street Global Advisors in Trian Management’s fight at Procter & Gamble last year. Also last year, the Florida State Board of Administration and Ontario Teachers’ Pension Plan threw their support behind Pershing Square in its fight against ADP.
“Activist investors rely very heavily on the support of other shareholders when it comes to exerting pressure on a company, including when it comes to building a stake,” says Kai Liekefett, leader of the shareholder activism group at Sidley Austin. “Institutional investors are the swing votes you need in order to win a proxy fight or convince the company to not even go down the road of a proxy fight — they are the key to any engagement.”
Institutional investors rarely team up with activists directly to go after a company, but occasionally it happens. Pension funds — as opposed to mutual funds — are more likely to team up with activists, sources say, pointing to a few rare campaigns. Notably, Calstrs teamed up with Relational Investors to spin off part of The Timken Company, a global manufacturer, in 2013, and the fund also teamed up with Legion Partners in 2015 with a slate of board nominees at Perry Ellis International, though ultimately it withdrew the slate after working with the company. Calstrs and Legion teamed up again last year and installed two directors at the Banc of California.
Even less frequently, an institutional investor or pension or union fund will lead a proxy fight at a company. According to FactSet, since 2015, there have been only nine such fights.
Generally, institutional investors prefer to work behind the scenes of a proxy fight, sources say. Liekefett says institutional investors typically don’t like to be too aggressive, because they don’t want to jeopardize their access to the company and long-term relationships. But they also worry about their legal fiduciary duties to their clients. So, in some cases, they turn to “activists for hire.”
“Most of the institutional investors are very reluctant to exert pressure themselves, so they look at activist hedge funds to ‘do the dirty work for them,’” Liekefett says. “They act more soft-lipped by turning to activists confidentially behind the scenes at underperforming companies — you see this is a lot.”
Meanwhile, activists have learned to craft their arguments to appeal to long-term institutional investors, sources say. Steve Balet, managing director and activism expert in the strategic communications practice at FTI Consulting, says some activists talk to institutions up to six times a year to develop relationships in order to build support before going to a contest. For example, he notes that he saw an activist give an open letter about several board nominations to other investors when a company turned down the activist’s request to speak. A few weeks later, the company named the dissidents to the board.
“Most successful activists are deep-value research investors with an ability to speak the language of an active institutional investor,” Goldfarb writes. “Activists win support when the target company needs change and the institutional investors agree that … insightful dissection of the issues … and careful selection of new board nominees with … [the] skills that will address those issues” are needed.
Motivations to Back Campaigns
Most institutional investors do not have formal policies for voting in activist campaigns and say they consider each situation on a case-by-case basis, according to public proxy voting guidelines.
According to Morrow Sodali’s 2018 institutional investor survey of 49 global institutional investors managing $31 trillion in assets, 61% find the most important factor that leads them to support an activist is a credible story focusing on the company’s long-term strategy. Over half (54%) say poor capital allocation is the most important factor leading to support, while 35% say a weak board. Other factors considered by the investors include poor governance practices (29%), the company’s disregarding a previous shareholder vote (12%), failed engagement practices (10%) and no access to directors (5%).
Last year, survey participants said poor governance practices (60%), disregard for previous shareholder opposition (50%), the company’s unwillingness to engage with investors (45%) and the board’s not comprising necessary skills (12.5%) were the most important factors leading to activist support. That survey did not offer the same multiple choice selections as this year’s.
Economic incentive is certainly the most important reason for institutional investors to support activists, sources say. Generally, investors examine board and governance issues only when there is already poor financial performance, Liekefett says. They can then point to the CEO’s being cherry-picked by the board, for example, as a reason for poor performance.
Observers have also questioned the sway proxy advisory firms have in proxy contests. According to the Proxy Insight data, institutional investors voted in line with Glass Lewis’s recommendation on proxy contest votes 70.4% of the time and with ISS’s recommendation 75.6% of the time.
Balet says there are multiple factors behind this alignment. For instance, some institutions have outsize voting correlations with proxy advisor recommendations. Similarly, he says, there is some robo-voting among certain funds along with proxy advisors. Finally, some funds believe proxy contests at smaller companies do not warrant as much research, and they therefore may decide to go along with the proxy firm recommendation without digging too deep into the facts of the situation.
Meanwhile, in a recent blog post, Glass Lewis claims its support for activists in contests dropped from 40% in 2016 to 32% in 2017. Balet says most institutional investors will ultimately vote for the activist side of a campaign if they believe change is warranted, and — whether or not they think the activist has the right plan to make that change — they “may still support representation on the board for minority control.”
However, Goldfarb says institutional investors will typically still engage directly with both sides before making a decision.
“Investors evaluate the message from both sides, review the track record of the activist and its nominees, as well as the board’s nominees, frequently consider research from proxy voting advisors and sell side analysts and ultimately support the side that the investor believes will create value for its investment in the company,” Goldfarb writes.
Liekefett says it’s important that boards “do not take any vote for granted,” because, he says, at some point all institutional investors vote for a dissident candidate. He says boards should reach out early and often to their investors and not wait until the last minute to find out where they stand on a proxy contest.
“Boards of directors are wanting more of an unadulterated view of what investors are thinking at periods of time through things like anonymous investor polls to get an idea of how the company is truly viewed by the investment community, which informs [the board’s] actions and outreach,” Balet says.
In order to appeal to institutional investors when they desire change, Balet says companies and boards are infusing their own new ideas into their communications with investors and adjusting that message based on what activists might be arguing.
“The trend is clearly continuing that institutional investors are becoming more active, even if it’s just behind the scenes,” Liekefett says. “Investors feel they are the fiduciaries for their clients and they have an obligation to be assertive if things aren’t going the way they should.”
Full article here.