PRIVILEGED AND CONFIDENTIAL
Shareholder Activism:
Preparedness and Response
Fall 2016
Contents
• CURRENT ACTIVISM ENVIRONMENT
• ANTICIPATING ACTIVISM AND RESPONDING TO ACTIVISM
1
Current Activism Environment
2
Activism remains a threat amid volatility
Activists Have Recently
Underperformed
100%
Current
Dynamics
●
State of the market  new
investment opportunities for those
with dry powder
●
Activists may take more aggressive
actions to generate returns
●
Activists will be both catalyst for,
and potential obstacle to, M&A
execution
●
New entrants, any shareholder can
be an activist
●
Some activists are rebranding
themselves as “engaged
shareholders”
75%
61%
50%
33%
25%
18%
0%
-25%
-50%
GS Activist Index
S&P 500 Total Return
HFR Fund Weighted Composite Index
Source: 13F filings, Hedge Fund Research, financial advisor analysis
as of March 8, 2016.
3
Despite challenges, activists are more active
• Poor performance hobbled some large activist funds heading into 2016, with investors pulling out $15 billion from
hedge funds in Q1 2016 alone.
• However, activist attacks have been growing steadily and successful campaigns have been on the rise, due to
1) greater access to capital, 2) an increase in “occasional activism”, and 3) a broader set of corporate targets
Growth in Activist Attacks and…
Campaigns Resulting in Board Seat(s)
Granted
Won Via Vote
374
347
242
262
2015
120
2014
274
219
91
2013
51
2010
2012
2013
2014
2015
18
68
2011
2011
16
73
2012
2010
10
11
8
61
0
8
50
100
150
Source: FTI Consulting and Activist Insight; FT.com and HFR; SharkRepellent. Firepower includes AUM of primary-focus and partial-focus activist funds. Number of activist
attacks represents U.S. campaign announcements, including the following campaigns types: value creation, public short, board seat and officer/director removal.
Campaigns resulting in board seat(s) includes campaigns resulting in at least one board seat for the activist (or where the activist had a meaningful say in the appointment
of a new independent director); based on date seat was won/granted.
4
No Company Is Too Big, Too Popular,
or Too Successful to Be Immune from Activism
5
More shareholders are trying activism
Rise of the Occasional Activist
4%
2012
10%
More Campaigns by First-Time Activists
Primary Focus
20%
Partial Focus
49
50
Occasional Focus
40
32%
34%
Other
2015
3%
14%
Primary Focus
28
30
20
20
15
11%
Partial Focus
21%
51%
36
Concerned
Shareholder
Occasional Focus
Concerned
Shareholder
Other
10
0
2011
2012
2013
2014
2015
More investors are trying their hand at the activism game
Source: Activist Insight, with latest full year results from 2015
6
Companies of all sizes are becoming targets
Activist Targets by Size, 2015
$250M-1B,
45%
>$10B,
15%
$1B-5B,
33%
$5B10B,
7%
Since 2010, more than 1/3 of S&P 500 companies have faced a
public demand from an activist
Source: SharkRepellent and Activist Insight, with latest full year results from 2015
7
The Rise and Rise of Institutional Ownership
Indexed Assets as a Percentage of
All Mutual Fund Industry Assets
Share of Institutional Ownership of U.S. Common Stock
35%
100%
30%
80%
25%
60%
20%
15%
40%
10%
20%
5%
0%
1985
0%
Households/Retail Investors
____________________
1990
1995
2000
2005
2010
Q4
2015
Institutions
Source: Blume and Keim (2012), Wharton School Dept. of Finance, “Institutional Investors and Stock Market Liquidity: Trends and Relationships,”
Strategic Insight 2010; Proxy Pulse (2015); Broadridge Financial Solutions, Inc. (2015); Bloomberg (2010, 2016). Bloomberg data for 2010 and 2016 only for S&P 500
companies; may not be entirely comparable to earlier data.
8
The Rise and Rise of Index Funds
Passive mutual funds are accumulating larger stakes in more big companies, often collectively
exceeding the holdings of actively managed funds.
Number of S&P 500 companies in which
Vanguard Group’s U.S.-based passive mutual funds
and exchange-traded funds owned 5% or more
Number of S&P 500 companies in which U.S.-based
passive mutual funds and ETFs collectively own
more stock than active ones do
468
500
112
120
450
100
350
Companies
Companies
400
300
250
80
60
200
40
150
100
20
50
12
3
0
2005 '06
'07
'08
'09
'10
'11
'12
'13
'14
'15
'16
0
2005 '06
'07
'08
'09
'10
'11
'12
'13
'14
'15
'16
Note: Applies to total market value of share classes included in the S&P 500. All figures as of year-end except for 2016, which is as of June 30.
Sources: Wall Street Journal analysis of data from Morningstar (funds and stock ownership); S&P Global Market Intelligence (S&P 500 constituents, share
classes, share counts and market values)
9
Traditional Institutional Investors Have Also
Become More Directly Engaged in Activism
Institutional Investors Are Willing to Support
and Even Participate in Campaigns
Activist
Firm Name
Pershing Square
Icahn/
Southeastern
Actively Managed
Institutional
Investor
Starboard
Trian
Icahn
Trian
JANA
Index Funds
Company
. . . And Support Activists in Proxy Fights
KnightVinke
Elliott
Legion Partners
Relational Investors
% “FOR” Dissident
Nominee(1)
T. Rowe Price Associates
62.5
Janus Capital Management
50.0
Fidelity Management & Research
45.5
Morgan Stanley Investment Management
44.4
MFS Investment Management
42.1
TIAA-CREF
30.6
Franklin Advisors
39.0
Norges Bank Investment Management
39.6
Mellon Capital
34.4
Geode Capital
57.1
BlackRock
40.6
State Street Global
30.7
Northern Trust
26.7
The Vanguard Group
23.3
Source: FactSet, Thomson, “Are Institutional Investors Part of the Problem or
Part of the Solution?” (Committee for Economic Development, 2011).
Includes percent of times voted dissident slate in global proxy fights as of
January 23, 2016.
1
10
Major Institutional Investors Speak
“Our main goal as a near-permanent source of
capital for companies listed in the indices is to
maximize the probability of long-term value
creation on behalf of our clients…we recognize
there are different ways for activists to engage
with companies and that some activists can drive
positive change. But we are wary of activist
situations that favor short-term gains at the
expense of long-term investor interests.”
(Ronald P. O’Hanley, State Street Global Advisors)
“As of August 2016, 49 companies had conceded
104 board seats to activists in settlements,
almost on par with the 106 seats conceded by 54
companies in all of 2015. This significant uptick
represents a dramatic increase in situations
where long-term shareholders have not been
afforded the benefit of public discussion
regarding these activists’ views on strategy,
compensation, share buyback programs and
other factors.” (Ronald P. O’Hanley, State
Street Global Advisors)
“[C]ompanies are usually better served when ideas for
value creation are part of an overall framework
developed and driven by the company, rather than
forced upon them in a proxy fight….Over time, as
companies do a better job laying out their long-term
growth frameworks, the need diminishes for quarterly
EPS guidance, and we would urge companies to move
away from providing it.” (Laurence D. Fink, BlackRock)
“When activists raise legitimate questions and tie
their business cases to long-term shareholder value,
that gets our attention…[but] board members
cannot be more worried about their own seats than
they are about the future of the company they
oversee. Boards must take a principled stand to do
the right thing for the long term and not acquiesce
to short-term demands simply to make them go
away. (F. William McNabb, III, Vanguard)
11
There is a new paradigm of corporate governance
Less outsourcing of governance and portfolio
oversight to proxy advisors and activist hedge funds
12
Activists use a variety of screening criteria to
identify targets
Factors Considered by Activists:
Primary
Focus of Recent Campaigns:
“Screening” Criteria
Potential Questions
1•
Perceived consolidation
opportunity
•
Is the Company a logical target for a strategic consolidation?
— Extraordinary dividends
•
2
Stock price
performance/relative valuation
•
•
What is the absolute stock price performance? What is my cost basis?
How is the stock performing vs. peer and/or industry?
•
New and “improved”
capital allocation strategies
3•
Management
stability/performance
•
•
Has there been a change in CEO or other top execs or CEO succession questions?
Has the company had difficulty filling key vacancies?
•
Sale of the Company or
division
4•
Capital structure
•
•
Spin-offs
•
Is there excess cash with a poorly defined strategy for deployment?
— What is the level of net cash relative to market cap?
— Capital ratios vs. peers?
Is cash/debt funded repurchase accretive?
•
Management change
•
Board change
•
Return of capital – e.g.:
— Share repurchases
— Withhold-vote campaign
— Launch short-slate
proxy contest
•
Compensation reform
•
New corporate strategies
•
5
Candidate for break-up,
restructuring or other outsized
returns
•
•
Is the Company trading below the sum-of-the-parts value?
Are there opportunities for divestitures or restructuring?
6•
Poorly understood strategy
•
•
Has the company clearly and consistently articulated its strategy?
Is company’s strategy well supported by the market?
•
7
Research analyst
criticism/negative press
commentary
•
•
Are there any reports or press calling for sale of the Company or subsidiary?
Any rumors about the Board, management team or Company’s operation?
8•
Takeover defenses
•
Is the Company vulnerable from a structural defense standpoint?
— Can I remove directors without cause?
— Is there a stockholder rights plan in place?
— Can I act by written consent or call a special meeting?
•9 Stockholder base
•
•
•
Are there other activists in the stock that I can team with?
What percentages of institutions do hedge funds and index funds comprise?
How significant is the retail ownership?
• Corporate governance
10
•
•
•
•
Has ISS recommended any “withhold” votes for directors at other directorships?
What are the ISS and Corporate Library scores? Any notable downgrades?
Is there a history of stockholder proposals?
Are the Company’s directors long-tenured, senior in age or over-boarded?
13
Objectives of Economic Activism
Board Representation
Sale of the Company
Split the Company
/
/
/
/
/
/
/
/
/
/
/
/
/
Return Capital
/ Various
/
Greenlight *
/ Icahn
/
/
/
/
/
/
/
/
Remove CEO
/
Bid for Company
Oppose Transaction
/
/
&
/
/
/
/
/
/
/
/
/
/
/
/
Attack Corporate
Governance
/
14
Activists may deploy a wide range of private and
public tactics to achieve their goals . . .
Less Coercive
PRIVATE APPROACH
1
Private conversation between activist and target CEO
2
Private conversation between activist and target chairman / lead director / select directors
3
Private letter from activist to target CEO / Board members
4
Acquire stock without public disclosure (less than 5% under U.S. 13D regime)
5
Seek “on-Record” conversation between activist and Board members / management
PRIVATE / PUBLIC LINE
More Coercive
6
Acquire stock with public disclosure (greater than 5% or announce; HSR early clearance)
7
Discussion of potential deal or governance changes with analysts / third parties
8
Publicly disclosed letter (tone and firmness varies)
9
Stockholder proposal
10
Proxy fight (at annual meeting or through special meeting or action by written consent)
11
Litigation plus proxy fight
PUBLIC APPROACH
15
. . . and will typically follow a familiar pattern of
escalating pressure
Build Stake
• Accumulate initial stake
(may include "hidden" economic
ownership amassed through
derivatives)
•
•
•
•
•
Make Hart-Scott-Rodino filing
Continue to build stake
Publicly disclose stakebuilding
File 13D (or similar)
Team up with other institutional
or activist shareholders
Apply Pressure
Take Action
Against Board
• Request meetings with
• Threaten "withhold the vote"
• Send private letters threatening
• Demand Board seats
management and/or Board
public action
• Issue open letters to Board
• Become aggressive with
management on analyst calls
• Aggressive 13D disclosures
• Threaten to agitate against
Board's preferred strategic
alternatives or to vote against
Board-approved M&A activity
• Seek to stir up third-party
interest and rally other
investors ("wolf pack"
phenomenon)
campaign
• Launch short-slate or full-slate
proxy contest
• Call a special meeting (where
available)
• Propose a precatory proposal for
specific action
• Take action by written consent
• (Aggressive use of derivatives
("riskless voting")
• Make public bear hug (rarely)
• Commence tender offer (rarely)
• Use aggressive public relations,
including leaking rumors
• Litigate
16
Or, more simply . . .
Phone call or meeting with CEO
or attempt to “pick off” a
director
Private letter to the board
Public letter to the board
Launch public proxy fight
17
Proxy advisory firms often support activists
• When analyzing proxy contests, ISS focuses on the following questions:
— Have the dissidents made a compelling case that change is warranted?
— If so, are dissident nominees more likely to effect that change than incumbents?
• ISS has lent substantial support to dissidents in proxy contests
— In practice, ISS policy has put the burden on the company to show that change is
not warranted
— In contests waged by hedge funds since the beginning of 2008 in which ISS issued
recommendations, ISS supported at least part of the dissident slate in
approximately 60% of the cases
— Of these cases in which ISS supported at least part of the dissident slate, at least
one dissident was elected in approximately 70% of cases
• Glass Lewis has been slightly more favorable to management
18
ISS Recommendations in Proxy Contests
Proxy Fights where ISS issued recommendation
40
Management
35
Activist
30
18
(51%)
# Meetings
25
20
12
(43%)
19
(63%)
15
10
16
17
11
5
0
2014
2015
Thru July
2016
Source: ISS Governance Voting Analytics. Data based upon meeting date
between 1/1/2014 and 7/19/2016. Proxy contests for all indices in the U.S.A.
Includes elect directors (opposition slate) and remove existing directors only.
19
How Will the New Paradigm Affect Activism?
Historical Board Representation & Time to Settlement with Activists
31
28
26
20
146 Days
101 Days
93 Days
60 Days
2012
2013
2014
2015
Campaigns Where Seats Gained¹
Average Days to Settlement²
Source: FactSet, Activist Insight, public sources.
1 Includes
activist campaigns announced from 2012 – 2015; targeting companies with equity market capitalization >$500M; including private and public
settlements for board seats; involving activists on FactSet’s “SharkWatch50” list; excluding activism directed at funds.
2 Represents
time elapsed between initial public agitation and the date on which board seats were granted.
20
Activists May seek to discredit individual directors
and undermine the board
Overview
•
•
•
•
Attack Themes
Activists have gained seats on well performing
companies by targeting individual directors
Corporate governance remains an important voting issue
for index funds
—
Activists are tailoring their argument to various
segments of the target’s shareholder base
—
Companies can do the same
Growing focus on Board tenure
—
Average director tenure
—
Individual director tenure
—
Absence of any new directors in recent years
—
“Lumpiness” of tenure
Companies can take proactive steps to create pipeline
for director succession and enhancing board
composition
Long-Tenured
Directors
Lack of
“Shareholder
Perspective”
on Board
Lack of Recent
/ Relevant
Industry
Expertise
Lack of share
ownership
Over-Boarded
Directors
“Problem”
Directors
“Too many”
insiders
Alleged
“Conflicts of
Interest”
Activists are increasingly assembling slates of directors
with a mix of seasoned executives, corporate governance
notables, and others with “investor” perspective
21
Anticipating Activism
and Responding to Activism
Advance preparation
•
Stay one step ahead: Core strategy of activist is to try to create a wedge between (1) the Board
and management; (2) directors; and (3) the company and its shareholders.
•
Look at your business the way a short-term financial investor would and understand how that
might differ from how a long-term oriented investor would evaluate the Company
•
Understand the new paradigm of corporate governance and stay close to shareholders by:
—
—
—
—
—
—
•
Be alert to early warning signs, such as:
—
—
—
—
•
Tracking ownership, trading volumes and other indicia of activity
Maintaining an open dialogue with shareholders; year-round sport (not just proxy season)
Consider board level engagement in select situations as appropriate
Continuing regular temperature taking calls pre- and post- earnings and conferences
Objectively assessing what you hear – are you receiving candid feedback?
Engaging with portfolio managers as well as proxy/voting departments
Extremely pointed questions during Q&A
Analyst reports suggesting structural changes or adverse shareholder sentiment
Changes in shareholder base
Activist’s prior history
Be ready for the first phone call – It can be difficult to recover from mistakes made in the first
conversation
—
—
—
Establish internal and external teams, including advisors
Directors should know to refer calls to the CEO
Consider a dress rehearsal (for senior management and advisors) for next steps by activists
23
Principles for responding to live activist situation
• 1 Everything should go through the CEO
—
All executives and directors should refer activist approaches, overtures and conversations to the CEO. It is
essential that the company speak with one voice
—
Whether or not to “reward” an activist with access to the CEO is a tactical decision that should be thought
through under the specific circumstances
—
Activists may try to contact board members directly, all conversations are “on the record” and any
comments may be used by dissidents in the dissident’s private and public communications
—
Chairman / Lead Director involvement may be warranted in certain circumstances
• 2 Keep the Board prepared and informed – maintaining board unity and preserving
confidentiality is essential
—
A unified, supportive board is essential to producing the best outcome; key is to avoid having the activist
drive a wedge between management and the board
—
Remember that although CEO is the focus of attention in peacetime; in an activist situation, the directors
will also perceive themselves to be under attack and challenge
—
The CEO should consult with the board and solicit advice. Honest and open debate should be encouraged,
but kept within the boardroom
• 3 Keeping the situation private can have significant advantages
—
Once public, a target’s options narrow dramatically, including because it becomes harder for activist to
withdraw without extracting changes it can take credit for
—
It may be difficult to win over institutional shareholders (and impossible to win over arbs) with sensible
economic arguments — “long-term” means months and “value” means anything above their buy-in price
24
Principles for responding to live activist situation
(cont’d)
• 4 Remain focused on the business
—
—
Activist approaches can be time-consuming for a board and management, but continued strong performance
of the business, though not an absolute defense, is one of the best defenses
When/if business challenges arise, handling in a manner that preserves credibility is critical
• 5 Nature of response must be determined based on the specific circumstances at the time;
however, constructive engagement is often (though not always) preferable to “combat”
—
—
Many activists will listen to reason
Activist will want to know: (1) that its views are being taken seriously; (2) that the board is open to change,
not asleep at the wheel and not willfully blind to potential alternatives
• 6 Act and speak as though everything you do and say will be made public
—
—
Activists will not hesitate to quote you out of context or twist your words
Appreciate that the public dialogue is often asymmetrical; while activists can, often without consequence,
make personal attacks and use aggressive language, the company cannot respond in this manner
• 7 Be aware that activist is likely to talk to:
—
—
—
—
—
—
Other shareholders, large and small
Sell-side analysts
PE Funds and other potential acquirors
Shareholders of your competitors
Former and current employees
Business partners
25
Principles for responding to live activist situation
(cont’d)
•8 Do not allow activists to occupy the “moral high ground” of corporate governance or
shareholder rights
—
No activist represents the interests of all shareholders (and usually they represent the interests of only a
small minority) — and it is ok to point this out, at the right time and in the right way
—
Do not be cowed by arguments that “good governance” requires the board to act as the shareholder demands
•9 The board will have time and flexibility in responding — and plenty of latitude from a legal
perspective
—
Risk of legal liability is low, as long as board acts in a deliberative manner on an informed basis
•10 If activist situation becomes public . . .
—
Initially, no response other than “the board will consider and welcomes input from its shareholders”
—
Call special board meeting to meet with team and consider further communications
—
Commence communications outreach

Press release acknowledging receipt and affirming board’s openness to shareholder input

Reach out to largest shareholders; offer phone calls or in-person meetings

Consider outreach to, or have prepared quote for, key media contacts

Consider possible communications to employees, as necessary

Update / draft investor presentation deck
26
Playbook: Outline of steps
•
Assemble Team in Advance
— Typically 3 to 5 key officers, such as CEO, CFO, General Counsel, Head of IR and PR, as well
as outside counsel, investment banker, proxy solicitor and PR/IR firm
•
Prepare General PR/IR Statements in Advance
•
Understand Major Dos and Don’ts
•
Steps for Non-Public Approaches
•
Steps for Public Approaches
•
Keep Board Apprised
27
Responding to an activist’s call:
General guidelines
•
Prepare Core Statements
—
“We remain focused on continuing to create shareholder value…”
—
“We know our company well and have a thorough understanding of both our opportunities and challenges…”
—
“We communicate frequently with our shareholders and welcome a continued dialogue…”
What to Do or Say…
• Emphasize that the Company is open to engaging with all
shareholders and listening to their perspectives
• Highlight that the Company values receiving the activist’s
view and input as a shareholder
• Listen more than speak, and allow the activist to lead the
conversation
• Maintain the high ground and avoid debating with the
activist; however, it is okay to correct factual errors
• Remember Regulation FD and that everything you say
could be put in the activist’s public filings
• Avoid commentary on how the Board will view a particular
action (other than that the Board is firmly committed to
delivering shareholder value)
What Not to Do or Say…
• Do not establish any hard lines in the sand
• Do not engage in a detailed debate on the merits of any
proposal or respond to hypothetical scenarios
• Do not make negative comments regarding the
Company governance or operations
• Do not say anything that you do not want to see
subsequently disclosed to the press or shareholders
(avoid sound bites)
• Do not commit to respond on any particular timetable
• Do not commit to any particular follow up (such as
agreeing to allow the activist to talk to other
executives, directors or the whole Board)
No Company representative should speak to the activist alone
28
Responding to non-public communication
•
Assemble team and determine initial strategy. Response is an art not a science; one size does
not fit all
•
No duty to disclose
•
Try to learn as much as possible by listening
•
No duty to respond, but failure to respond may have negative consequences
•
Team should confer to carefully orchestrate a particular approach
•
A short meeting with activist to determine its agenda and to avoid it going public is often helpful
— Do not be defensive or confrontational
— Developing a framework for private communication and nonpublic engagement may avoid
escalation
•
Be prepared for transition to a public campaign by activist
— Everything is “on the record” and may appear in a public shareholder letter, SEC filing or
future proxy fight
— Screen phone calls (office and cell); activist may try to reach out to various executives or
directors
•
Keep Board apprised
29
Responding to public communication
•
No initial response other than “the Board will consider”
•
Assemble team; inform directors
•
Call special Board meeting to meet with team and consider the communication
•
Determine the Board’s response and whether to meet with the activist
— Failure to meet may be viewed negatively by institutional investors
•
Avoid mixed messages
— Management and Board should work together
— Large format or group meetings should generally be limited or avoided
•
Proactive public relations campaign important to level playing field
— Present investors with a well-articulated and compelling plan for long-term success
•
Appreciate that the public dialogue is often asymmetrical
— Activists can make attacks and use aggressive language; the company will not respond in this
manner
•
Gauge whether the best outcome is to agree upon Board representation and/or strategic business
change to avoid a proxy fight
•
Be prepared and willing to defend vigorously if a reasonable settlement is not possible
•
Remain focused on the business; activist approaches can be all-consuming
30