Covid-19 has Created a New Hunting Ground for Activists and Boards Need to be Ready
For more than a year, the Covid-19 pandemic has caused economic turmoil and uncertainty different from the financial crisis in 2008. Liquidity constraints impacted both sides of the activist equation in 2008, and issuers focused on financing their businesses for survival rather than growth, making strategic, financial, and operational activist strategies politically unpalatable if not impossible.
Following the financial crisis, a golden decade of shareholder activism ensued as government stimulus and quantitative easing programs provided companies with capital that drove M&A, bolstered direct returns to shareholders, and enabled other financing and transactional activities that provided activist shareholders with pieces for their chess board.
As companies now grapple with the fallout of a global health crisis, activists are advancing those pieces in ways that demand a rethink of the received wisdom dominating corporate “playbooks” for managing an activist engagement. While not exhaustive, there are three areas in which an updated approach can benefit boards.
Don’t wait too long to tell your story
A company facing activist scrutiny needs to view itself as a defendant in the court of public opinion. Unlike at trial, however, where juries are sequestered to shield them from public bias, there is no sequestration order in the court of public opinion.
Shareholder activists are too often given free reign at making baseless allegations against boards and individual directors which are allowed to linger for months and to root as truth in the minds of voting shareholders and outcome influencing third parties. This is amplified by the fast and loose dissemination of unsubstantiated allegations through social media, creating an echo chamber of no escape.
We have seen from our experience that Boards are too willing to take a pelting from an activist for too long before issuing a lengthy advocacy piece or investor presentation that lacks the impact of a strong, immediate denial of heinous allegations. It is not reasonable to expect shareholders and other constituencies to simply “unhear” months of accusations by activists.
While we are not advocating a tit-for-tat approach, boards should be willing to flatly and assertively reject any baseless accusation of corporate crimes and misdemeanors. Voting shareholders often wonder why boards don’t combat falsehoods with more speed and vigor. They will find this robust approach refreshing.
Activists often turn down reasonable settlement offers…and lose
Over the past several proxy seasons, our practice has advised on situations in which activists overplay their hand by turning down reasonable settlement offers made by the company only to lose at the annual meeting. A look back at ISS and Glass Lewis reports as well as shareholder voting behavior in these and other situations clearly demonstrates that the proxy advisors and institutional investor community look favorably on boards that make reasonable peace offerings and then are left with no choice but to defend a campaign that the activists refuse to resolve.
This evidence of activist hubris should encourage boards to look beyond making expedient promises during the heat and light of a proxy campaign that may appease an activist but are detrimental to long-term corporate health. Writing checks that a company can’t cash alienates long-term shareholders, leaving boards exposed to subsequent activist campaigns after the short-sighted strategies undermine the possibility of ongoing value creation.
In order to preserve continuity, boards should not be afraid during an activist campaign to articulate credible strategies that hold the prospect of meaningful long-term value creation for shareholders and at the same time be willing to make a reasonable offer to an activist to avoid the cost and distraction of a contested meeting. This is not a show of weakness, it is a common-sense tactic that will maximize the chances of retaining control of the board.
Put in place processes and procedures to rebuff demands to “sell now” or your board seats will be at risk
Recent history has shown that boards lose control of the M&A narrative, and crucially their board seats, when activists are able to poke holes in boards’ procedures for exploring alternatives and evaluating inbound interest.
Boards often have robust and regular deliberations about M&A in keeping with basic principles of good governance, which are too often shrouded in mystery. This makes it all too easy for a sale-seeking-activist to level stinging allegations of board entrenchment. Boards need to rebut such allegations outright and fast. In this case, the rebuttal is only believable if an infrastructure exists at the board-level to objectively review inbound interest while periodically benchmarking the company’s strategic plan against alternatives in the market.
As best practice, Boards should regularly meet with bankers to discuss market trends, compare performance against peers, and conduct “market checks” to assess whether it would be a good time to sell, buy or continue executing on the current strategy. Boards also need to make sure that operating governance structures include a reliable mechanism to review inbound interest. This could take any number of forms, from a formal “Strategy Committee” of the board to a less formal yet still codified process with which to assess the value creation potential of a company’s stand-alone strategy versus the prospect of “selling now.” Boards may differ on how/whether to proactively discuss or disclose these processes. The important thing is that they exist before public scrutiny suggests otherwise and are credible and transparent.
There are reasons to believe that the severity of the financial impact of the Covid-19 crisis will diminish and the economy will no doubt heal with time. That said, there is likely to be a tail leaving a trail of companies needing to be weaned from government stimulus and/or operating in sectors that have undergone lasting structural change. While the cause and origin of this crisis is fundamentally different from the self-inflicted wounds of 2008, activists are likely to again find value dislocations that make for happy hunting.
New and evolving activist tactics can quickly overtake set play responses, leaving companies sluggish and vulnerable. By applying the principles of rapid response, short-term sacrifice for long-term gain, and robust M&A exploratory processes, boards can stay ahead of would-be accusers.
Lawrence Elbaum is a partner with Vinson & Elkins and the co-head of the firm’s Shareholder Activism practice, based in New York City. He leverages more than fifteen years of experience as a securities attorney and business advisor to counsel boards and executives of public companies with respect to shareholder activism campaigns and complex corporate governance matters. For five consecutive years, FactSet, Refinitiv and Activist Insight have awarded V&E’s Shareholder Activism practice their #1 defense rankings based on the number of public companies defended against activists.