Expect a More Active Proxy Season

The 2012 edition of Shareholder Activism Insight sees increasing opposition from shareowners during the next proxy season, according to 78% of respondents. Fully 84% predict an increase in the number of shareholder proposals with the financial services sector hit the hardest. One quarter of corporate executives think 30% or more of shareowner proposals will obtain a majority vote.

In the second quarter of 2012, Schulte Roth & Zabel commissioned mergermarket to interview senior corporate executives and activist investors regarding their experience with shareholder activism and their expectations for the upcoming 12 to 24 months.

We should keep in mind the law firm has an incentive to scare companies into hiring their services. Additionally, the responses are slightly dated. More important, we don’t know how valid the sampling was of “corporate executives” and especially of “activist investors.” For example, who  are activist investors? Are they anyone who files a 13D? What activities make for an activist? It would be helpful to define terms. Still, if we believe their findings, we can expect increased activity in the coming season. I know I’ll be filing a few more proposals myself.

The major driver appears to be repeat showings of poor performance.  Included in the report are the quotes, the first from a hedge fund partner, the second from an executive in the tech sector:

Shareholders have not seen any returns because of the extended fall in share prices, but management has not been affected. Shareholders will raise questions.

Shareholder activists have been successful in improving governance and creating value. Activists have demonstrated their ability to affect companies’ policies and decisions and this will cause more investors to take an activist approach.

The report includes a bar chart of who will increase activism. 74% expect activism among hedge funds to rise, 50% predict an uptick at pensions funds, 44% at union funds, 36% among mutual funds and 16% among sovereign wealth funds. What about retail investors and religious groups? I don’t think these activists will go away. See the chart below showing who submits proposals.

With hedge funds filing only 3 proposals in 2011, it would be no surprise if that number increases dramatically. To be fair, “activism” encompasses much more than proxy proposals. However, although we do know respondents discussed proxy proposals we don’t know if “activists” included those who file proxy proposals.

The top four sectors expected to see increased shareholder activism by both corporate and activist respondents are financial services, industrials and chemicals, technology, and energy. 84% of respondents expect the influence of shareowners to increase.

Here is one of the most interesting findings: Financial performance is now seen as the primary driver of shareowner activism by just shy of 100% of respondents, versus roughly half of them in 2010.  The report quotes a private equity firm partner:

Recent steep drops in the share prices are driving the investors to show their frustration with management. Shareholders are coming out of the dark and are comfortably questioning management activities and dealings. Many proposals will be aimed at board changes.

Proxy contests are cited as the most effective shareowner strategy. Corporate governance and poor performance by management are the top drivers for requesting change and unseating board members, according to 44% and 34% of respondents respectively. Expect things to get a little nasty. A corporate VP comments:

Ideally, the company should try to negotiate and reach for a settlement. But if the shareholder continues to be resistant, switch strategies to more offensive litigation.

As I said at the top, 84% predict an increase in the number of shareholder proposals. Top demands during the 2012 season were more involvement by shareowners in meeting and voting rules, decisions, nomination of board candidates, as well as wanting more independent directors and declassified boards.  One quarter of corporate executive expect 30% or more of shareowner proposals to obtain a majority votes, whereas activists expect a much lower number. According to one shareowner activist:

Disparate views among shareholders are common and present many challenges.

The most likely changes are more rules allowing amendment of corporate bylaws to require declassified boards and majority voting for director election. Additionally, there will be increased dialogue around “pay for performance” and “say on pay.”

The biggest split between shareowners and corporate executives was around the issue of board representation. From the report:

Respondents disagree on the issue of board representation. Activist respondents unanimously agree that shareholders should have board representation, but only 36% of corporate respondents feel the same.

This is likely to be the central area of dispute in coming years. The vast majority of respondents expect proxy access proposals to increase. Shareowners see representation as a right and very positive for increasing trust. Executives see such representatives leading to disagreements and leaks. Most companies will fight to keep shareowner representatives out of their boardrooms.

Activist investors see mid-market companies as the most likely targets for activism and they are allocating more assets to such investments. 60% are committing 10-15% of assets to such investments, versus only 6% committing that level of their assets in 2010… a ten-fold increase. Activist are also targeting higher returns from such efforts. Just under half are expecting returns from activism in the range of 20-30%, whereas previously only a quarter of respondents aimed that high.

See also, Activist investors’ expanded efforts to seek increased returns for shareholders cause headaches for management, by Joseph B. Crace and David Killion, Thomson Reuters. 10/28/2012.

As Pat McGurn of ISS would probably say, next season will be “wild and woolly.”