Activist investors often identify hidden opportunities within companies. Their involvement has historically resulted in strong returns for shareholders.
Companies with high cash flow but low returns on equity are the first places activists look for opportunity – either to lower costs or allocate capital more effectively.
Identifying the Company’s Problems
Managers must be well aware of the strategies of activist investors to fight back. Activists are different from traditional value investors, because they aim to buy minority ownership in order to campaign at their target company.
Companies that are lagging relative to their competitors or markets can be eyed by activist investors as potential investments. These businesses might also have some problems an activist investor can redress, such as unprofitable processes or strategy missteps.
They could engage in public action — via press releases, open letters to the CEO or board of directors, promoting shareholder meetings, or even filing lawsuits against firms.
Identifying the Management Team
The failures of managers and high executive pay often attract protesters, such as Dan Loeb at Third Point who has hit a few of these companies with long public letters to management asking for changes.
Activists look for future growth: new markets, new products. They might spot business lines that take up money today, but will earn profit in the future: one industrial products firm’s activists discovered that only three customers took up to 70% of the product’s current and future revenue growth.
Unlike value investors, activist investors look at a management team more closely – such as the compensation package, stock options, insider deals and company culture.
Recognising Company’s Competition.
Activism investing tends to go for companies with good brands and products that have had problems due to misguided strategic actions or management mistakes, and attempt to shift its business strategy back to its strengths. In these cases, activist investors will seek to shift the business strategy of the company back towards these capabilities.
An activist investor will also spot bad companies undervalued by the market. They look to add value by lobbying for items such as dividend increases and stock buybacks – publicly campaigns, negotiations or proxy fights when necessary – with effect – and the evidence has been established – stocks targeted by activist investors outperform their peers after successful campaigns, and are traceable via SEC filings and other publicly available data.
Experiencing the Company’s Potentials
Branded or successful businesses suffering from poor strategies are ideal for activist investors such as Carl Icahn and Nelson Peltz, both prominent business reformers.
In this case, the activist investor often argues that the share price is too low and proposes to return capital to shareholders in the form of dividends or stock buybacks. They advocate, too, for better corporate governance and board representation.
Opportunities for activism are slow to come by, months or years to identify; when they do present themselves, though, they must be grabbed. When Spotify Technology SA announced a major stake, ValueAct Capital Management noticed, and requested increased shareholder rights to provide its shareholders with greater control over the company, in early 2023, it also raised its head.
Recognizing the Company’s Threats
Usually, activists come in when the firm needs new insights, but their advice can often be helpful too. L1 Capital’s drive to get Tabcorp to separate its lotteries division brought the business back to its strengths.
The actions that activists can call for include the disposal of assets, dividend increase, reduction in cost and changes in management. Nelson Peltz’s Trian Fund Management campaign against DuPont had led to the election of four directors and cuts to costs, and Carl Icahn’s campaigns brought stock buybacks and dividend increases.
By staying abreast of activist activity in your sector and within your peers, risks can be avoided. One 2022 study showed that activist-held stocks beat the market for three and five years after they made public their ownership in SEC filings.
