Dr. P.V. Viswanath
Unlikely Allies Seek to Check Power of Activist Hedge Funds
Feb. 2, 2014, NY Times
By DAVID GELLES
Relations between big public companies and their largest shareholders can at times take on the qualities of a long, unsatisfactory marriage. Complaints from the shareholders are many, but they go mostly unspoken, leading to simmering resentment.
In the age of activist investing, this often leaves companies blindsided when traditionally passive investors suddenly side with an insurgent hedge fund pressing management for change.
But now, an unlikely alliance of investors, board members and advisers has formed in an effort to counter the disproportionate influence of activist hedge funds on corporate America.
The group, calling itself the Shareholder-Director Exchange, wants to provide companies, boards and investors with the self-help tools they need to avoid sudden blowups, soothing these sometimes strained relations.
The exchange is made up of representatives from big investors like BlackRock and Vanguard; board members from companies including Home Depot, Coca-Cola and Hertz; and corporate advisers from the law firm Cadwalader, Wickersham & Taft, who typically defend against activists rather than work for them.
The group began discussions last year to try to develop a protocol for institutional investors and board members to follow when either side wants to talk to the other.
Activists were not part of the working group that developed the protocol, however.
Still, when the endeavor is announced on Monday, the participants hope it will provide a template for healthy relations between investors and directors around the country.
“There’s an unfortunate gap in dialogue that has developed,” said James C. Woolery, the chairman-elect of Cadwalader, who conceived of the Shareholder-Director Exchange and oversaw its development. “Shareholders and the boards that serve them need to be closer, they need to be more integrated, and there need to be real relationships.”
Under the protocol, which is a voluntary set of standards that companies and investors can adopt, boards will be encouraged to meet with longtime shareholders to discuss issues of corporate governance, management performance and deal activity, as needed.
The purpose is not for board members and shareholders to discuss operations, financial results or return-of-capital plans — topics that are more appropriate for management. This should keep companies from falling afoul of the Securities and Exchange Commission’s fair disclosure regulations, which require that material nonpublic information is made available to all investors at the same time.
“For many things — financial results, the strategy, how execution is going, return-of-capital programs — it really is the purview of management to talk to shareholders,” said Linda Fayne Levinson, a director at Hertz and Western Union, among other companies, who was part of the group that developed the protocol.
But for corporate governance issues, management changes and long-term plans, the group recommends that boards and investors get together and talk.
“When shareholders want to talk to directors, it’s because they hate the pay program, they don’t like the C.E.O. or they want to know how directors are thinking about other governance issues, such as destaggering the board,” Ms. Levinson said.
The protocol states that when either a company or an investor wants to engage with the other, they will approach designated contacts, like a corporate secretary, and request a meeting. The other party will acknowledge the request as soon as possible, and agree to meet within 20 business days.
When the sides do meet, the goal is to create an environment where frank discussions can occur. The protocol calls for the independent nonexecutive chairman or other lead directors to attend, and for senior members of the institutional investment group to participate.
Management, lawyers and bankers are discouraged from attending the meetings.
The protocol suggests that meetings be between a company and one investor, but it allows for flexibility, so that several investors could approach directors about similar concerns. It also suggests that shareholders might attend board committee meetings or strategy retreats, or special investor days.
Once both parties air their grievances, the boards and investors are encouraged to commit to next steps resulting from the meeting, and to share the information about the engagement with other board members, management and other investor colleagues.
Though companies need not commit to specific changes for the meeting to be deemed a success, “an important element of engagement is each party’s willingness to listen carefully to one another and to take action in response to valid concerns,” the protocol states.
“These meetings have to have a purpose,” said Michelle Edkins, global head of corporate governance at BlackRock and a member of the group that developed the Shareholder-Director Exchange. “It isn’t just about everyone getting to know one another.”
The protocol has been developed as activist investors have upended relations between companies and institutional investors in recent years. Led by brash investors like William A. Ackman, Daniel S. Loeb and Carl C. Icahn, activists are pouncing on underperforming companies, demanding management and board changes, return-of-capital programs, and even spinoffs and disposals.
Increasingly, activists are enlisting the support of institutional shareholders, who often feel disconnected from a company’s board and management because dialogue is rare.
“When Carl Icahn shows up in Apple and sends a tweet, Apple stock goes into turmoil,” said Declan Kelly, chief executive of Teneo, a consulting firm that helped organize the exchange. “That means shareholders are disconnected enough from the board’s message that they are responding to a 140-character message and not trusting Apple’s directors. It’s not healthy for the financial system.”
Because of activists’ willingness to broadcast their opinions about companies in their cross hairs — over Twitter, on CNBC and in public letters — they are often granted unusual access to management and directors. Mr. Icahn, for example, recently had Apple’s chief executive, Timothy D. Cook, over to his Manhattan apartment for dinner. Many companies, by contrast, speak to their largest shareholders a couple of times a year.
The Shareholder-Director Exchange protocol is intended to establish more open lines of communication between companies and institutional investors, allowing companies to get their message out, and investors to express concerns, more frequently.
So far, the project is little more than an idea. But executives at big shareholders like BlackRock, Vanguard, Calvert Investments, State Street Global Advisors, and directors at big companies such as Yum Brands, Archer Daniels Midland and Six Flags Entertainment, are all committing to doing business this way. “It’s long been thought that talking to shareholders is only the C.E.O.’s job,” Ms. Levinson said. “We’re trying to open it up a little bit.”