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The sophisticated activist

by Paula Schaap  |  Published December 18, 2012 at 4:37 PM
More plus more sophisticated. That's the take on the 2012 to 2013 field for activist investor campaigns as proxy season gets under way. There has already been a 4.9% increase in the number of companies targeted in 2012 over 2011 -- 320 companies all told -- with a 6.7% rise in investors taking activist stances to 382, according to data compiled by advisory firm Hedge Fund Solutions LLC.

Plus, Hedge Fund Solutions founder Damien Park says, the trend is toward greater sophistication on the part of activists. "A few years ago, activists would just demand a one-time special dividend, and a huge buyback, even a leveraged buyback," he says. "There wasn't a whole lot of depth to the demand or the analysis behind the demands."

Contrast that now to the kind of analysis put together by Pershing Square Capital Management LP's Bill Ackman about Canadian Pacific Railway Ltd. Ackman advanced an industry-specific case seeking to persuade investors that running the railroad with more efficient use of track and rolling stock would boost its share price. It was an argument that not only got Ackman's minority slate elected, but that saw Canadian Pacific CEO Fred Green ousted in favor of veteran railroader Hunter Harrison, the hedge fund manager's candidate for the top job.

Another trend this past year was the way hedge fund managers arrived on the scene with CEOs boasting substantial track records in the sector as preferred board choices, most prominently Home Depot Inc.'s former CEO Bob Nardelli, one of Starboard Value LP's nominees for Office Depot Inc.'s board. There was the aforementioned Harrison at Canadian Pacific, plus Ackman's preferred choice to head up J.C. Penney Co.: Apple Inc.'s Ron Johnson (who as CEO remains very much a work in progress.)

When it came to nominees, the coup pulled off by Third Point LLC's Dan Loeb at Yahoo! Inc., in which the hedge fund manager discovered discrepancies in CEO Scott Thompson's resume and rode that to a victory at the Internet search company, resulting in Thompson's ouster and the hiring of Google Inc.'s Marissa Mayer, was one for the books.

Over at another legacy search engine, Starboard's Jeff Smith went up against AOL Inc. chief executive Tim Armstrong, challenging his assertion that AOL could make a go of it as an information vehicle, mostly through Armstrong's online local news outlet, But Smith lost and sold out his stake by the third quarter of the year.

However, there is losing and there is losing. By the time Starboard bailed out, AOL stock had more than doubled since Smith went public with his first letter to Armstrong in December 2011. And that, after all, is the point: returns to the activist's own investors.

That also illustrates another theme, says Houlihan Lokey Inc.'s Gregg Feinstein, co-head of the investment bank's M&A group: activists pushing for financial restructurings rather than outright sales, a trend to some extent occasioned by the tightening of credit.

"Since 2008, it's people like Ackman and Starboard and Jana Partners [Barry Rosenstein's hedge fund], but if you look at the guys who are doing the most interesting things, they aren't generally suggesting that the company should be sold," Feinstein says. "They have a very careful analysis of a certain thing they think the company should do. So, for example, Jana thinks Agrium [the Canadian fertilizer company] should spin off its retail arm."

The best activists have multiple ways they can win, including advocating for spinoffs, or persuading investors that the company's valuation is too low relative to peers, and that strategic business decisions will fix that.

"It's not simply that [the activist] either sells the company or they lose," Feinstein says.

There is also a new generation of activists in town.

Steve Wolosky, a partner with Olshan Frome Wolosky LLP, who advises Starboard, among other activists, says that not only is activism here to stay, but, "We have younger, newer players who are very talented raising more capital and starting to get involved in more situations.

"There's going to be more capital coming into this field because of the successes of the bigger players," he adds.

Carl Icahn, still going strong at 76, has lost nothing in the obstreperous letter category. He accused the board at truckmaker Oshkosh Corp. of having a "track record of failure," but lost that proxy contest, his second try at the company in two years. (Icahn also made a second run this year for board seats at drugmaker Forest Laboratories Inc., winning one seat this time around.)

However, many of the new breed prefer persuasion to warfare.

For instance, Icahn's ex-lieutenant Keith Meister (pictured), who founded Corvex Capital Management LP with seeding from his former boss, favors the "speak softly" route. Meister settled for a seat on food conglomerate Ralcorp Inc.'s board in October. Come late November and Ralcorp had done what Meister requested: It accepted a $6.8 billion takeover offer from ConAgra Foods Inc. And he accomplished that with only one board seat.

Then there was another chip off the old block hedge fund manager: Mick Mcguire, founder of Marcato Capital Management LLC, and formerly of Ackman's Pershing Square Capital, who did what his ex-boss would have done at prison manager Corrections Corp. of America and persuaded the company to consider spinning off its real assets into a REIT.

Corporations and proxy advisory firms are also assisting the trend toward more negotiated settlements, says Christopher Davis, who heads up law firm Kleinberg, Kaplan, Wolff & Cohen PC's investor activism group.

In 2012, Davis says, "There was a trend toward an increased reduction in non-pill takeover defenses, particularly destaggering boards, which has gained a lot of steam. It has proxy advisory service support because they're finding out it doesn't spell doom for a board."

What's more, the proxy advisory services are more open toward companies retracting poison pills, or adopting them only with shareholder approval, paving the way for activist investors to negotiate, rather than take a hard proxy fight stance, Davis says.

Park also says he expects a move toward more consent solicitation campaigns next year, like the one activist Clinton Group's Greg Taxin ran at Wet Seal Inc., which Taxin won after the teen clothing retailer first agreed to settle, then backed out. While Taxin said he wants to see the company return to fiscal health, private equity companies have been said to be trying it on for size.

There could also be room for change through shareholder special meetings -- witness Starboard's tilting against Office Depot's board's seemingly insurmountable control vote in conjunction with U.K. private equity firm BC Partners Ltd. But people familiar with the situation say that the odds could go in Starboard's favor if it carefully works the percentages required in a special meeting situation.

With more money going into the activist funds, plus a different stance on activism by institutional investors -- what was once viewed as a risky proposition is now seem mainstream -- the setting is ripe for a bumper year for activism.

Feinstein expects a lot of activity going into 2013, because activism remains what he called a "hot" area of interest for institutional investors.

"It was another bad year for hedge funds, in general, so managers are realizing they have to be their own catalyst," he says.

People from both the corporate and the activist side of campaigns said they knew of at least 20-plus potential campaigns besides those already publicly under way.

Of course, some of those campaigns might never go public, either because the activist is appeased through corporate action or because the investor decides it is the wrong company or the wrong time to push for change.

"There will be a continued trend toward reasonable settlements as boards realize that sophisticated investors are not the enemy," Davis says.

Tags: Barry Rosenstein | Bill Ackman | Bob Nardelli | Carl Icahn | Clinton Group | Damien Park | Dan Loeb | Fred Green | Greg Taxin | Hedge Fund Solutions LLC | Hunter Harrison | Jana Partners | Keith Meister | Marcato Capital Management LLC | Mick Mcguire | Olshan Frome Wolosky LLP | Pershing Square Capital Management LP | Starboard Value LP | Steve Wolosky | Third Point LLC

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Paula Schaap

Assistant Managing Editor: Markets

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