Activist Shareholders - PowerPoint Presentation

Slide1

Activist Shareholders & Their Impact on Takeovers

Chapter 14Slide2

background

Berle

and Means’ separation of management and control

–

the

dominant view

for

decades

assuming

a shareholder group made up of dispersed owners each with

small ownership

stakes.

1960s

and

1970s --

institutional

shareholders assembled large

stakes

but

their governance role was almost always passive.

1990s to present

–

activist

institutional shareholders

emerged

changed

how takeovers occur. Slide3

current scene

Innovations in computing power and electronic communication

possible now to

assemble and absorb large amounts of information.

decreases

in costs of communication among investors

high

powered incentives in the assembling and management of large pools of capital

Legal changes made

spread of information

easier;

relaxed

prohibitions on communications as to proxies and tender offers.Slide4

Hedge Fund Activism

Hedge fund business plans (In General)

Investing to deliver above-average market returns

Aggressive economic

strategies

Betting on currency movements, interest rates

Focus on debt securities or distressed firms

Merger arbitrage

Engagement w/ governance as one

strategy

Seneca, Icahn opposing Blackstone Dynegy deal

CSX/TCISlide5
Slide6

Typology of Hedge Fund Activism

Related to Pending Acquisitions

Blocking acquisition on the Acquirer side

Blocking acquisition on the Target side

Facilitating Target return via Acquirer activism

Changing

Company’s Business Plan

Prodding board to make large cash payment

Unbundling i.e. sale/ spin-off

Obtaining board seats (not overall control)

Supporting Generic Governance Changes

Led by other institutional shareholders

Dramatic effect on reduction in staggered

boardsSlide7

Pending Acquisitions

Influencing Acquirer Side

What is the motivation?

Managers have paid too much; Empire building

What is the technique?

Exercising acquirer shareholders’ right to vote

Influencing Target Side

What is the motivation?

Management selling too cheaply

Example: Private equity (Blackstone buying Dynegy)

Hedge

fund as gatekeeper

What is the technique?

Voting, appraisal, fiduciary

dutySlide8

Pending Acquisitions II: Empty Voting

Influencing Target Outcome via Acquirer Activism

Mylan

/King Pharmaceuticals

Where is the profit likely to be?

What is the risk to that profit?

How might investor reduce that risk?

Perry strategy

Protecting a large stake in target

Buy 10% of acquirer

Sell off the financial interest, keeping only the voting interest – problem

?Slide9

Changing the Company’s Business Plan

Prodding cash payments, unbundling assets, board representation

Where have you seen that before?

What kind of bidder? Where will value come from?

Technique to Accomplish this

Credible threat to use full-scale proxy fight if manager doesn’t accept advice

Credible threat that other institutional investors will join

What is it not? Buying the companySlide10

Activist s/h on corp governance

subset of institutional investors

pursue

corporate voting to change governance rules of public corporations

more generally

large

pension funds, often the pension funds

of public

employees

Calpers

the California Public Employees Retirement

System

NYCERS, the

New York City Employees Retirement System)

various

other group

supporting reform

in corporate governance.

Slide11

Corp gov s/h activism

Dramatic decrease in use of staggered boards by public companies

2004 – Institutional investors started credibly threatening they would vote against directors’ election at annual meetings if they didn’t ditch the staggered boards

2010 – only a minority of largest US corps have staggered boards

Pills cut back but not so much – pills can be inserted with only BOD actionSlide12

CSX Corporation v. The Children’s Investment Fund Management (UK) LLP

no deal pending

for CSX Corporation, one of the nation’s largest railroad

companies

But

two

large hedge

funds,

including the

Children’s Investment

Fund (most

well‐known hedge

fund in United Kingdom)

seek to influence management to undertake

value‐increasing transactions

(i.e. transactions that will produce more cash flow to shareholders.)

two

hedge funds launch a proxy fight in which

they seek

to elect a minority of the board and the right to call a special meeting of shareholders.Slide13

CSX

plaintiff is

corporation

itself

Company tries to get

preliminary injunction for the hedge

funds’ alleged

noncompliance with the disclosure provisions of the federal securities

laws

not

the

Unocal or Revlon pattern of most of

our cases, with

litigation by

representative shareholders

.

substance

of

litigation -- noncompliance

with

securities regulation requiring disclosure when acquiring 5% or more of a company’s shares or when undertaking a proxy fight.Slide14

hedge fund’s strategy: political

TCI makes SEC disclosure that

it will acquire a significant portion of CSX, even mentioning

control

But focus

is replacing

a minority of directors

to get influence over company

TCI seeks to name two directors and works with another investor who also seeks to elect

two directors

. Slide15

Hedge fund strategyTCI is actively seeking to get other activist investors involved in the fight (sometimes referred to as a wolf pack.)

TCI’s political strategy influenced by seeking support of

ISS‐ Institutional Shareholder Services

, (now part of

RiskMetrics

)

ISS has

achieved an oversized role in

takeovers

advises

institutional shareholders how to vote in proxy solicitations, including

takeovers

.Slide16

The hedge fund’s strategy: financial

TCI acquired

a large part of its interest in CSX not by

acquiring shares

but through

swaps

.

contract

between TCI

and

eight large

financial firms—banks and investment banks

.

entitled

TCI to receive payment from its counterparty equal to what would occur

if CSX

went up in value (the long position) and

. . .

the

counterparties to receive payment from

TCI equal to the change if CSX went down in value (the short position). Slide17

Hedge fund strategy -- financialresult -- TCI

would be in the same financial position as if it owned the stock, but would have invested only the fees and quasi- interest it paid for the

contract

Same effect on possible

returns and losses

as

leverage.

the counterparties would be expected to hedge their exposure should CSX go up in value (when it would have to pay TCI.)

They hedge by buying

CSX shares

.Slide18

The hedge fund’s strategy: financial 2

impact

of

strategy

on voting

important

to

hedge

fund’s pressure on CSX.

TCI has no voting rights on the investment it has made through the swaps even though it

had the

economic risk as if it had purchased the

stock

The

counterparties, because of

their hedging

, actually will have the right to vote, but having hedged, they have no economic

interest propelling

that vote.

Slide19

Hedge fund strategy financial (cont.)

But court notes (496) that were TCI to settle its swaps with the banks, it would remove the practical need for the banks to continue to hedge, thus creating a ready supply of shares should TCI wish to convert its exposure from swaps to actual physical shares

important

to court’s resolution of whether TCI owns the shares for purposes of whether it has crossed threshold requiring disclosure under 13(d).

TCI reducing its counterparties from eight to two reliable parties seems to also influence court’s view of TCI’s

actual control

over the shares in the name of its counterparties

.Slide20

Disclosure

Two separate parts of the federal securities law

implicated

.

disclosure

required when proxies are solicited

(Section

14(a) of the

Securities Exchange

Act)

disclosure

required when one has acquired 5% of a

publicly traded

company

(13(d

) added to the Securities Exchange Act by

the Williams

Act in 1968).

The

materiality questions end up being the same for both, so

focuses on

13(d) claims. 13(d) claims turn not on

whether the disclosure made in the filing was sufficient, but . . . whether the hedge funds had delayed

nine months

in making the necessary filing

they

argued

they did not have beneficial ownership of

the shares

to which the swaps related and because they were not part of a group until December.Slide21

Disclosure holdings

The court finds against the hedge fund on both of these claims

.

concludes

interests represented by the swaps should

be counted

in determining whether TCI had crossed the 5% threshold.

(The

question of what is a group for purposes for making tender offer filings was

high profile

issue in tender offer

law in

the period after enactment of the Williams Act, but has

received less

attention

recently. )

Here court concludes

that

TCI and 3G were a group long before their December

filing

thus they

did not give the other shareholders the required notice required by 13d.Slide22

Remedies

court finds two violations of the federal disclosure

provisions designed

to give shareholders information about 5% shareholders that could lead to

possible takeovers

.

Remedy?

remedy proposed

was

sterilization

of the shares acquired during the period of the insufficient

disclosure

would

impact a hostile raider’s effort to win a showdown

with management

.

Here

the impact

less

since control

not at issue. court concludes that there is not irreparable harm essential to obtain injunctive relief in the form

of sterilization. The court grants injunction restraining further violations

of Section 13(d

)

more

than a slap on the

hands?

Cf. Topps caseSlide23

developmentshttp://blogs.law.harvard.edu/corpgov/2012/04/17/hedge-fund-activism-in-technology-and-life-science-companies

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http://blogs.law.harvard.edu/corpgov/2012/04/12/section-13d-reporting-requirements-need-updating/#more-27383