How Activist Investing Operates
The entry of an activist investor is actually the driving force behind change and turnaround in the field of activist investing.
An investor using the activist investing strategy looks for poorly managed businesses whose stock prices have recently dropped.
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After identifying a target, the activist investor acquires a sizable portion of the company’s stock, which frequently serves as a warning to the market that changes are imminent.
The company’s share price may therefore increase in anticipation of a turnaround once word spreads that an activist firm has acquired stock.
After making an investment, the activist investor is likely to advocate for changes that they feel will benefit the company’s shareholders and raise share prices.
Operational Decision Shifts and Strategic Redirection
Restructuring the Capital Structure (Sub-Par Capital Allocation)
Spin-offs and Non-Core Division Divestitures
Modifications to Management Techniques
“Shake-Up” of Corporate Governance (e.g., Replacement of Management Team)
What is an activist investor’s strategy?
An activist investor’s overarching goal is to be the driving force behind change that can increase shareholder value within the target (and share price appreciation).
Hedge funds and other activist investors in the US are required to report their ownership by submitting a Schedule 13D to the SEC.
Obtaining an ownership stake in voting class shares that surpasses a 5% threshold is a prerequisite for the filing requirement.
Since activist investors usually do not own a majority of the equity, one of their tactics is to win over other investors, particularly the more powerful institutional investors who hold larger stakes (and more shareholder votes).
Even with a small stake, activist investors have the power to influence a company’s course and exert control over a vulnerable and underperforming business.
When management teams discover an activist investor’s stake, some choose to accommodate the investor and show that they are receptive to their suggestions, while others view them as threats, which can sometimes lead to a proxy war.
What Is the Difference Between Value and Activist Investing?
The goal of value investing is to find cheap stocks and then wager on one or both of the possible outcomes.
Market Correction: The market will self-correct and reflect the temporary mispricing of securities’ fair value.
Turnaround → When a business is having trouble, its management team will find a way to turn things around.
Since the activist believes that a target’s share price is trading well below its potential, activist investing and value investing are conceptually related.
The difference with activist investing is that the activist adopts a much more “hands-on” strategy to compel change after identifying an undervalued company.
The company tries to persuade shareholders that there is “hidden” value in the business that management is not leveraging because management has probably lost the support of shareholders.
Value-creation opportunities are necessary, though, or influence without a clear strategy will backfire on all parties involved.
An activist must thus pinpoint the underlying reasons for a business’s recent poor performance and offer suggestions for promoting operational, financial, and strategic changes.
The growing wave of activist investors
With campaigns up 111% in the last ten years, investor activism with a financial focus is on the rise. What began with a few daring, unconventional investors has developed into a well-known sector and a powerful force.
Better corporate governance, sharp increases in operating margins, and the sale of non-core, underperforming businesses are just a few examples of the demands made by activists. Even though these adjustments might appear advantageous, abrupt and unforeseen demands have the potential to upset the company’s long-term plan and take leadership away from its top priorities for creating value. How can businesses grow profitably in the face of these immediate pressures?
What makes you a target for activists?
An activist investor may find a company appealing as an investment opportunity if its financial performance indicates that it is undervalued, poorly managed, or dealing with more serious problems. In the two years preceding an activist campaign, over three of four target companies (79%) produce subpar results.
Other, less obvious indicators may also indicate that a business is a potential target. A company’s risk of drawing activist investors can be indicated by a number of factors, including media presence and scrutiny, ease of operational change, and CEO tenure.
The demands and results of activists
Through a variety of suggestions and actions, activist investors seek to raise the target company’s total shareholder return (TSR).
Changes to top management and corporate governance are the main focus of more than two-thirds of campaigns. We see these as a tool to help activists change the decisions made by the target company.
M&A actions, like requesting a spin-off or putting pressure on a sale, are the most frequent after governance changes. These are followed by capital management, operational efficiencies, and strategic adjustments.