Joseph Mariathasan assesses the merit of so-called activist funds
Karl Marx is not the economist whose views most fund managers would claim to follow. But if you ever visit his grave at the once fashionable Victorian cemetery in Highgate, North London, you will see the epitaph inscribed beneath his bust: “The philosophers have only interpreted the world in various ways; the point, however, is to change it.” Some fund managers have taken this axiom very much to heart and, in their interactions with the companies they follow, seek not just to interpret the information they get but to change the companies themselves.
In the US, activist investing has been around for decades, but there is some evidence indicating it is increasing. In 2015, the number of companies receiving public demands by an activist investor grew by 16%, according to Activist Insight. But activist funds have not been getting good press recently. Activist firm ValueAct, for example, was the driving force behind the growth of now struggling pharmaceutical company Valeant. Concerns about the impact of activist firms in encouraging very short-term focus by management in the US has led to two US Senate Democrats introducing a bill in March co-sponsored by Elizabeth Warren, the Massachusetts Democrat, and presidential contender Bernie Sanders of Vermont. The Bill – apparently inspired by the closure of a paper mill in Wisconsin that was the target of activist fund manager Starboard Value in 2011 – aimed to curb the behaviour of activist hedge funds.
At another level, shareholder activism has been tied in with the general debate on corporate governance and the necessity for fund managers to exercise active voting. For most fund managers, this has been a chore that adds little to their ability to outperform their peers and arguably detracts from it by the amount of resources it consumes, leading to the development of engagement-overlay providers – specialist providers that do not manage the underlying investment but provide voting and engagement services to asset owners.
But perhaps the deepest criticism of activist intervention of this type are the arguments marshalled by commentators such as Arjuna Sittambalam, who believes corporate-governance activism can stifle enterprise and damage investment returns. Sittampalam’s assertion in his 2004 book – Corporate Governance Activism: Desirable Doctrine or Damaging Dogma? – is that fund managers, instead of pressurising for change, should stick to selling the stocks they dislike, while company management should be left to get on with their jobs, something that, in most cases, they are better equipped to do than a fund manager. Moreover, it is the existence of accountable and independent boards that should be taking the role of ensuring management does not cause the company’s decline through mismanagement.
The debate over the role and benefits of shareholder activism is likely to run and run and ultimately will depend on the other checks and balances inherent in the local financial environment, which still can differ significantly from one developed economy to the next. In the US, shareholders have less power and rights than in the UK, so an activist shareholder has to take a much more aggressive approach to influence boards and chief executives.
What may be clearer is that taking some of the private equity disciplines and applying them to selected listed companies may be able to produce substantial benefits. However, with such a high level of engagement with a small number of small and mid-cap stocks, the capacity constraints for an activist manager are important. At these levels, activist funds may be profitable for their investors, but they are hardly likely to change the world.
Joseph Mariathasan is a contributing editor at IPE