Düsseldorf-based Dr. Harald Selzner is a partner at Latham & Watkins and Co-chair of the firm’s global M&A Practice. He has extensive experience in domestic and cross-border M&A transactions, including corporate restructurings, public takeovers, private equity transactions, carve-outs, minority investments, and joint venture transactions.
In this lw.com Q&A, he looks at the factors driving the increase of shareholder activism in Europe, the role US hedge fund are playing in the European marketplace, and the key differences between US and European activist strategies.
Is shareholder activism on the rise in Europe?
Selzner: Driven by the increase in US campaigns, shareholder activism is on the rise in Europe, which also is facing an increase in investments by activist hedge funds.
What factors are contributing to this increase in activity?
Selzner: Activist hedge funds are experiencing an increase in capital inflows due to significantly higher returns outperforming other hedge fund strategies. This in turn results in a territorial opening towards targets in foreign markets with Europe providing an interesting environment for activists. The increased focus on Europe is driven by a perceived undervaluation of certain companies by the capital markets, such as discount to balance sheet valuation, and companies with a large free-float, existing issues with corporate governance, and large cash reserves.
In addition, shareholders in Europe increasingly show less tolerance towards the underperformance of companies as the financial and Euro crisis is slowing down, shifting opinions towards the campaigns of activists. Institutional investors are more and more prepared to cooperate with and support activists in their negotiations with boards. In addition, proxy advisors are gaining importance, easing the alignment of shareholders' opinions.
Are US shareholder activists making a move into the European Market? If so, how are they adjusting their strategies so they are successful in the European market?
Selzner: I think it is helpful to understand if these are home-grown European shareholder activists — or if they are US shareholder activists looking for opportunities in Europe. Although there are significant ‘home grown’ European activist investments, the majority of the relevant market participants are US hedge funds. These US funds are required to adjust their strategies as they face a variety of European cultural peculiarities and regulatory regimes with special corporate governance features.
What are the main differences between campaigns in the US and in Europe?
Selzner: As seen with campaigns in the US, activist tactics in Europe range from friendly to hostile. In general, however, activists in Europe have taken a more co-operative approach compared to the US. This adjustment in tactics is due to characteristics in the legal and business framework in certain European jurisdictions, which historically provide for a less confrontational tone in business communications, the approach to management taken by institutional shareholders, greater union powers, mandatory co-determination requirements, and require a focus by the management on all stakeholders and not just shareholders.
In general, activist hedge funds in Europe — more often than in the US — refrain from public campaigns against the management. As a consequence, many activist investments remain unnoticed by the public — to the extent the activist's participation in the target company stays below the relevant mandatory notification thresholds.
Are there any notable tactics being employed by shareholder activists in Europe? What areas are activists in Europe specifically looking at?
Selzner: As in the US, activist hedge funds are not restricted to certain industries or businesses but rather have a multi-industry focus. Also the criteria used by activist hedge funds in Europe for screening potential targets are basically the same criteria activists apply in targeting US companies. Potential targets can be characterized by poor stock price performance compared to industry peers, high cash reserves, business lines that can be sold or spun off, a receptive shareholder base, weak structural and procedural defenses, and/or existing corporate governance concerns.
Activists typically aim to change the target's strategy (exit from or entering into markets or business segments); dividend policies, including share buy-back programs and distribution of super dividends; board composition; or (initially) block tender offers to increase the offer price. In addition, activists focus on balance sheet optimizations as well as operational and corporate governance efficiency campaigns.
What should European companies be doing to prepare for a challenge posed by a shareholder activists? What strategies could they use to deal with activists?
Selzner: To avoid being targeted by activist hedge funds, corporations are advised to constantly review their business strategy and identify respective vulnerabilities. The management should analyze the company's business from an activist's perspective and detect and correct weak spots and lack of performance on a regular basis (for example, white paper analysis). In general, boards need to become proactive about unlocking shareholder value. Due to the increasing level of support from institutional investors for activist campaigns, an ongoing proactive and transparent communication with existing shareholders, institutional investors, and proxy advisors explaining and communicating the company’s strategy is key.
Since activists are increasingly able to target larger companies, European executives need to understand that a big market capitalization is no longer an effective defense against activists' engagements.
Once addressed by an activist shareholder, it is crucial for the targeted companies to understand that different activists have different strategies, campaign styles, and demands. The relevant board needs to develop a tailor-made response strategy depending on the individual activist involved, exhausting all available sources of information. The management needs to view activism as a multilateral (communications) challenge rather than a mere bilateral (defense) phenomenon. A constructive dialogue may minimize the risk of a long-running public campaign, and boards should not dismiss activist's ideas out of hand.
It may also be effective to publicly address the activist’s strategy and clarify management’s position on it. It is essential to avoid a destructive defensive approach while at the same time emphasizing the company's strategy and long-term interest.