Investor activists: the good, the bad and the ugly
First published in the Sunday Times on 2nd April 2017.
Public companies suffer from a defect usually absent from private, family businesses: the agency problem. This arises because in public companies control rests with the board, while the shareholders provide the capital. Often they experience “insider capture” — the paid stewards run the company for their own benefit, and ignore the owners’ wishes.
One radical cure for this is provided by shareholder activists. When I worked in the City in the 1980s, these players were known as corporate raiders — and two books have been published on the subject in recent times.
Easily the best of these is Jeff Gramm’s Dear Chairman, a survey of the field ranging from Benjamin Graham in the 1920s to Carl Icahn in the 1980s to Daniel Loeb in 2005. Anyone who wants to understand how US shareholder activism works in practice, and gain historical context for such proxy battles, should read this.
A slightly less illuminating work is Owen Walker’s Barbarians in the Boardroom, which covers a range of mostly recent corporate punch-ups, including the hostilities at Yahoo, Hewlett-Packard and Alliance Trust.
At heart such disputes are about corporate governance, and differing views of the way to unlock shareholder value. Activists are usually labelled short-term financial engineers by the boards. Often this is valid. But, sadly, there are all too many cases of incompetent, overpaid management running public companies as fiefdoms. They deserve to be removed, and occasionally the only way is to boot them out via shareholder resolutions, proxy battles and litigation.
Although I consider myself an active investor, I generally avoid waging war with plc boards. Typically, I invest and take at least one board seat at the same time, so I can understand from the inside what is happening in the business.
However, it sometimes feels that confrontations are necessary to restore value. For example, I am pleased a US fund called Gatemore Capital has requisitioned an extraordinary general meeting at the delivery company DX, where it owns 11% of the equity, to replace the chairman and non-executive director with four of its own nominees.
Sadly, I also own shares in DX; I’ve written before about their slump from 100p to a current 9p. One of Gatemore’s proposed directors is Lloyd Dunn, with whom I worked at Nightfreight — he is very able. Unsurprisingly, the board have said they are “disappointed” by the activist’s action, which they consider “disruptive”.
Possibly the most high-profile activist investor of all, the American Bill Ackman, has had a terrible two years. He lost $4bn (£3.2bn) for his backers in a big bet on a drugs company called Valeant — while also going through an expensive divorce. He still faces a lawsuit over the disastrous investment, which could cost him another $2bn.
His public company, Pershing Square Holdings, registered in the Channel Islands, has slumped from a $25 subscription price in 2014 to $15 today. Perhaps someone will wage a proxy war and remove Ackman’s company as manager?
Another hedge fund manager turned activist, Edward Lampert, has also endured a dire run in recent years. He was hailed as the next Warren Buffett, and worth $4bn 10 years ago — but then he gambled on Sears and it all went horribly wrong.
He merged the retailer with Kmart and in 2013 became chief executive. Since then, the stock has fallen 93% and it may be headed for bankruptcy. Lampert attended Yale and worked at Goldman Sachs, but he has no experience of running a business, and his leadership has been an unmitigated disaster.
Electra Private Equity is the scene for a curious activist tale. The combative Edward Bramson appointed himself to the board in 2015 and became chief executive last year. The board then served notice on the fund managers, now called Epiris, saying they were costing shareholders too much. And last year the managers did pocket £122m in carried interest alone. But their record has been superb: net asset value up by 141% and a share price 231% higher over the past five years. Moreover, evicting the managers will cost £32m, and the board of Electra are unable to access management in the companies they control until June. somehow I doubt Bramson will beat the net returns achieved by Epiris in the past few years.
Overall, the best activists make a good contribution, but some are pirates.