From the first panel of the 2014 BCBLE and BBLJ Shareholder Activism Symposium: Three professors give a “bird’s-eye view” of shareholder activism.
Panelist:
- Eric Talley, UC Berkeley, School of Law
- Paul Rose, Ohio State University Moritz College of Law
- Adair Mores, UC Berkeley, Hass, School of Business
- Moderator: Joseph Santiesteban, Berkeley Business Law Journal
Who are Shareholder Activists and What can They Do?
Shareholder activism is the way in which shareholders leverage their equity stake to influence a corporation’s behavior. Eric Talley started the panel by giving an overview of who shareholder activists are and how they achieve their objectives. Talley separated types of activism into three clusters, with a complimentary fourth factor.
(1) Pressure Through Ownership
First, activists can achieve influence by pressure through ownership. Activists do so by creating toeholds (minority stakes) or securing boards seats. Once a toehold has been established, activists advertise how they believe management and the board should be run. Further, by shareholders having their representatives secure board seats, board members are pressured to keep shareholder interests in mind so that shareholders do not replace them.
(2) Pressure Through the Governance Process
Second, activists can create pressure through the governance process. A recent trend has developed in which bylaws have been amended to require a shareholder majority vote in order to be elected to board members. In such cases, shareholders can vote “no” to incumbent board members. If a board member going up for election does not end up with the majority of votes (even as an incumbent, and even running unopposed), the board member must then submit their resignation. The threat of not receiving a majority vote often creates an incentive on board members to succumb to shareholders wishes.
Another form, shareholder proposals, have become more common as of late. Although shareholder proposals are not directly threatening, Paul Rose advocates for using shareholder proposals as an indication of what is concerning shareholders. Over the past decade, the following are topics that shareholders tended to be concerned with: (1) repealing a classified board of directors, (2) appointing an independent chairman or separate the board chairman and the CEO position, (3) cumulative voting, (4) redeem posing pill, (5) eliminate or reduce super majority voting requirement provisions in the charter. (6) right to act by written consent, and (7) right to call a special meeting.
Roses’ research suggests that proposals submitted by shareholders who have more “skin in the game” tend to receive more support. Rose theorizes that this trend can be explained by investors being concerned with common agency costs. A shareholder who has more “skin in the game” is more likely to be interested in maximizing value, therefore, would not involved separate monitoring.
Finally, proxy contests, although having peaked in 2009, are another method shareholders use to influence the corporation’s behavior. Having shareholders band together is an especially effective measure when a company is on the verge of a take over.
There still remains the questions of whether the forms of governance are sufficient and whether external governance would provide a better solution.
(3) Pressure Through Litigation
Shareholders can bring direct and derivative suits in cases where the board breaches its fiduciary duties. The threat of litigation, actually litigation attempting to enjoin an acquisition or make substantial changes to the contract, or the threat of an appraisal action are all valuable, influential tools shareholders have in their arsenal.
In recent years, within the M&A context, shareholders have made use of appraisal actions in putting pressure on the board. Shareholders that oppose the price of acquisition have the right to be compensated for their shares at fair value. The dissenting shareholders seek a judicial valuation which requires the shares to be given a fair value and forces the acquiring corporation to pay the fair value price. This option is not available in stock deals. However, appraisal actions are always available during short-form mergers and § 251(h) mergers.
The majority of appraisal actions (estimated 80%) end up giving a higher compensation to the shareholder than the acquisition price. Delaware courts suggest that people are allowed to purchase stock and using this appraisal proceeding up to the day of the merger.
Appraisal actions do more than just give shareholders the fair value of your shares. If dissenting shareholders can convince other shareholders to ask for judicial valuation, an appraisal action can serve as a powerful bargaining tool. is
(4) Factor: Public Criticism
No matter which strategy a shareholder activist decides to employ, it can be combined with public criticism. Highly critical reports are known to affect the price activity.
Recent Trends
There has been an increase in hedge funds participation in which hedge funds earn a 14.3% higher return rate than the benchmark. This higher return rate is attributed to hedge funds active holding style. Some hedge funds have targeted the board, others have been targeted the company in its entirety. Targeting the board is still the minority of cases, however, in recent years it has become more prevalent. If the shareholders are targeting board members, data seems to suggest that it matters to a board members longevity, remaining in office. The correlation is that typically 3-4 years after being targeted, the board member ends up leaving.
Is Shareholder Activism a Good Idea?
There is an ongoing debate as to whether shareholder activism should be considered “a good thing.” On the one hand, shareholders playing a more active role in companies can deter fraud, self-dealing and sloth. However, shareholder activism does not translate into a public good. In fact, in cases where activism induces more leverage, bondholders lose out because they are undergoing higher risks without receiving the higher compensation.