Want To Stay Relevant? Think Like An Activist Investor

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For corporate boards and their companies, the only real protection from an activist investor is to consistently turn in an excellent performance.

activist investorEvery year, companies to spend millions of dollars and weeks of valuable management time fighting proxy battles with activist investors. These investors “thin the herd” by singling out underperforming companies that haven’t adapted to shifting customer needs, that have let bureaucracy and costs balloon, and that have failed to make hard choices.

Take an objective look at your company. Do you see insularity, outdated technology and processes, bloated costs, and missed market opportunities? If so, you’re not only a target for activist investors, you are at risk of becoming obsolete as a company. The only real protection from activist investors is to consistently turn in an excellent performance. And to achieve that, you must be bold, agile, innovative, asset-light, and incredibly in sync with your customers.

Here are five ways you can avoid being the next target:

  1. Adapt constantly, and make bureaucracy your enemy

It wasn’t hard for Nelson Peltz of Trian Partners to convince other shareholders that Procter & Gamble needed faster decisions and greater responsiveness when he showed them the data. P&G’s biggest brands, like Cascade and Gillette, are losing market share, while smaller brands, like Dollar Shave Club, which is owned by competitor Unilever, are growing three times faster. P&G has failed to adapt as as the market has shifted from “mass market” TV and print ads and big brands to digital marketing and smaller brands. After the costliest proxy fight in history, Peltz won a board seat, and will force the company to shed bureaucratic practices and failing marketing approaches and brands.

The lesson: If what made you successful isn’t working anymore, don’t wait for an activist investor to force the shift to a new way of competing.

“Shareholders will accept a grand vision for only so long if the financial performance isn’t there to back it up.”

  1. Make sure your strategy story holds water.

Former GE CEO Jeff Immelt spoke frequently about a key element of GE’s strategy: establishing the company’s Predix platform as the backbone of the industrial Internet of things. It was a nice story, but somehow it didn’t add up, given the disappointing financial and share price results. (GE shrank, rather than grew, under Immelt, and share price fell 38 percent during Immelt’s 16-year reign, while the Dow Jones Industrial Average doubled.)

Activist investor Nelson Peltz of Trian was particularly skeptical of Immelt’s strategy. Peltz’s white paper entitled “Transformation Underway…But Nobody Cares” and his continued pressure on GE to cut costs and repurchase shares led to Immelt’s resignation in October 2017.

The new CEO, John L. Flannery, is taking hard action, reducing cost and spinning off or selling off non-core parts of the company.

The lesson: Shareholders will accept a grand vision for only so long if the financial performance isn’t there to back it up. To avoid being the target of activist investors, make sure your strategy delivers the hard numbers that investors demand.

  1. Consider the activist investor’s recommendations and take action before they force you to do so.

When Dan Loeb, of Third Point hedge fund, pressured Honeywell to shed its aerospace business, Honeywell’s management team, under CEO Darius Adamczyk, tested Loeb’s theories, modeling various scenarios for slimming and refocusing the company. In the end, Honeywell management kept the aerospace business, choosing to spin off the car parts and home systems businesses instead. The spin-off created two best-in-class companies that were better off independent.

The lesson: Activist investors want your business performance to improve, and if they can do this without taking control of your company, they are often satisfied. So, when an activist investor makes a recommendation for how you should be running your company differently, consider their point of view. Often you’ll find that you can improve performance and retain control by implementing some or all of their recommendations.

  1. Partner with others and go asset-light.

When activist investor Mick McGuire of Marcato Capital evaluated restaurant chain Buffalo Wild Wings’ financial performance and strategy, he saw a major flaw: The brand wasn’t earning its cost of capital, largely because it owned its own stores. The solution, McGuire pointed out, was to franchise, rather than own, its restaurants. Increasing the franchise ratio to 90 percent from 49 percent by selling stores to franchisees, McGuire said, would improve returns and allow faster growth.

Internal managers pushed back hard against McGuire’s approach, but after a proxy battle, Marcato won three of the board seats it sought and pushed out Buffalo Wild Wings CEO Sally Smith. Five months later, in November, Roark Capital, a private equity firm with deep expertise in franchising, announced that it would acquire Buffalo Wild Wings.

The lesson:  To keep activist investors at bay, consider how you can employ partnerships to improve your company’s growth and profitability.

  1. Drive out unnecessary cost.

Bill Ackman of Pershing Square Capital went after ADP in 2017, making the case that costs should be substantially reduced. He pointed out that ADP’s labor productivity is 28 percent worse than its competitors, and that companies that ADP formerly owned, such as Solera and CDK, were able to double margins after being spun off from their corporate parent. In Ackman’s view, ADP was bloated, inefficient, and behind the times. In November, he lost his bid for ADP board seats, but only after causing a high-profile proxy fight.

The lesson: Activist investors look for low-hanging fruit—companies whose costs are out of line with their industry. Don’t be one of those companies. Be bold in keeping costs competitive, even if that requires difficult restructuring.

The bottom line: 

Activist investors look for companies that haven’t adapted effectively to shifting markets and customer demands, that have let bureaucracy and costs balloon, that have failed to make the hard choices that are needed. Proxy fights are expensive, distracting, and unpleasant, so make the needed changes in your business before an activist investor forces you to—or, for that matter, before competitors or market disruptors put your business at risk.

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