The WSJ reports that the SEC is investigating whether some hedge fund activists formed 13D “groups” but failed to make appropriate disclosure of their alliances. Under Rule 13d-5, when two or more persons agree to act together for the purpose of acquiring, holding, voting or disposing of equity securities, all of those persons together form a “group,” and are deemed to beneficially own all of securities owned by persons in the group. If the group together owns 5% or more of a company’s shares, all of the persons in the group may be required to make filings with the SEC. According to the WSJ report, SEC Enforcement has opened multiple investigations, sending requests for information to a number of hedge funds. The issue is whether, in targeting companies, they coordinated their efforts, or “acted in concert,” to target companies in a way that led to the formation of “groups,” but failed to make appropriate filings.
There has been a lot of focus recently on Schedule 13D filings, particularly the purported exploitation by some hedge fund activists of the 10-day window before a filing is required. As discussed in this post, several watchdog groups sent a letter to the chairs and ranking members of the Senate Committee on Banking, Housing and Urban Affairs and House Committee on Financial Services urging Congress to shrink the reporting window from ten days to one, adopt a “cooling-off period” of two business days after filing of the initial Schedule 13D (during which acquirers would be prohibited from acquiring additional shares) and “modernize” the definition of “beneficial ownership” to preclude the use of stealth techniques and derivative instruments to acquire control and evade the reporting requirements.
Just speculating, of course, but could it be that Enforcement is looking into the use of one kind of “stealth technique” to evade the required filing altogether: the practice of “conscious parallelism” among members of a “wolf pack”? As discussed in this post by Professor John Coffee, a “wolf pack” is “a loose association of hedge funds (and possibly some other activists) that carefully avoids acting as ‘group’ so that their collective ownership need not be disclosed on Schedule 13D when they collectively cross the 5% threshold.” In addition, because they purport not to be “groups,” wolf packs seem to be able to evade the types of “shareholder protection” measures, such as poison pills, that used to provide protection against these types of attacks. (See also this post.) Or, might Enforcement be looking at a possible failure to disclose some of the alliances that occur during the long ten-day filing window when, as discussed in this WSJ article, some “activist hedge funds are tipping each other off regarding their plans, while ordinary investors and targeted companies are left in the dark.” The practice of tipping other investors, the WSJ article charges, “is part of the playbook. Activists, who push for broad changes at companies or try to move prices with their arguments, sometimes provide word of their campaigns to a favored few fellow investors days or weeks before they announce a big trade, which typically jolts the stock higher or lower. In doing so, they build alliances for their planned campaigns at the target companies. Those tipped—now able to position their portfolios for price moves that often follow activist investors’ disclosures—benefit in a way that ordinary stockholders who are still in the dark don’t.”