Picking a worthy target is only the entry point for the types of deals that activist hedge funds take on. It is in the summoning of shareholder interest, restructuring of management and execution of rewritten corporate objectives that the manager succeeds or fails to generate the kind of ‘proactive alpha’ they seek. SIMON MUMME reports.
Even seasoned corporate siege-makers such as Chris Hohn of The Children’s Investment fund (TCI) and Warren Lichtenstein of Steel Partners find generating alpha from their targets can be stymied by the boards of those companies. While Hohn’s financial stake in US railway company CSX has nearly doubled since he bought it in 2006, the target’s ongoing lawsuit against his fund’s method of upping its economic ownership of company stock through derivatives is damaging the fund’s reputation.
Meanwhile, Lichtenstein’s efforts to take over Japanese Worcestershire sauce company Bull-Dog has seen his firm be lambasted as an “abusive acquirer” by the Tokyo high court and forced to take a poison pill. But these high-profile stories belie the reasonably amicable world of hedge fund activism, and the consistent successes that these managers have achieved, according to a recent report by Harry Liem, principal and hedge fund specialist with Mercer Investment Consulting (Mercer IC).
In the paper, entitled You’ve got greenmail!: A closer look at the merits of hedge fund activism, Liem points to research from US academics April Klein and Emanuel Zur covering 194 Securities and Exchange Commission 13D filings, submitted between January 2003 and December 2005, in which a hedge fund targeted a publicly traded company. The paper finds that in the time periods surrounding the initial 13D filing, the targeted companies generated returns an average 10.3 per cent higher than untargeted companies and a sample of other firms used as ‘controls’ in the study, whose classifications were based on industry, firm size and book-to-market ratio.
In the year following the activists’ acquisitions of their initial holdings in their targets, company dividends per share approximately doubled. Of all of their demands made in the filings, 60 per cent were successful. In this, 73 per cent of demands for board representation were met. Sieges of big companies such as Hohn’s battle in 2005 with Deutsche Börse aside, activist funds commonly target smaller firms: on average, just 6.5 per cent of businesses targeted were from a major index, the Mercer IC report finds. And these firms were not usually ailing but profitable and financially sound businesses. Nor do activists necessarily choose to antagonise targets: “most good activist managers don’t force change; they work with boards,” says Greg Liddell, head of implemented equities at Queensland Investment Corporation (QIC), which has invested in activist managers focused on European and Japanese markets.