One of the oft-heard phrases from companies on Wall St is that they are dedicated to "creating shareholder value." Essentially, this is an appeal to investors: We're concerned with making you money—usually above all else. Increasingly, companies are forced to take this approach due to the influence of wealthy "activist investors."
What Do Activist Investors Do?
The notion of an activist shareholder simply means that an equity stakeholder in a firm attempts to use their slice of the company pie as leverage in order to influence corporate decisions. This invariably requires them to hold many, many shares before they can exert enough pressure to do so.
For this reason, the idea of activist investors is usually attributed to two types of investor: 1) eccentric billionaires; or 2) massive hedge funds (which, as we will see below, are frequently just a vehicle for the visions of billionaire hedge fund managers themselves).
How do these so-called activists influence or place pressure on upper management? Again, there are usually two main strategies. They either threaten to sell off their shares (thus causing a drop in the stock price, depending on what degree they hold a significant stake in the company) or they bully themselves or their surrogates onto the company board. This is a popular tactic of one of the most notorious activist investors, Carl Icahn. Icahn has been known for making waves at Yahoo!, Time Warner, Nabisco, and the now-defunct Blockbuster.
In addition to Icahn, another prominent activist investor is Bill Ackman, the head of Pershing Square Capital Management. He is of the hedge fund manager variety, but uses Pershing's vast portfolio to sway not only companies but also other shareholders. In fact, icons like Ackman and Icahn have influence beyond the companies they hold equity stakes in. Their massive wealth lends them credibility with other investors, allowing them to be activists in the market itself.
Yet, this style of influencing corporate behavior can also do harm. Ackman famously led his firm and his other followers into a bad situation with Valeant Pharmaceuticals (VRX), which has lost more than 80% of its value since last summer. Ackman and Icahn got into a rather public spat about the merits of another company, Herbalife (HLF), which Ackman vehemently attacked. On the whole, there is an argument to be made that activist investors do more good than harm by driving profitability and raising shareholder value.
Hedge funds as an industry are currently a $3-trillion enterprise. Activist investing usually works because firms are held accountable to their shareholders (at least the biggest ones). Interestingly enough, the executives of these funds tend to make money even if their hedge fund doesn't! Five different leading hedge fund managers raked in more than $1 billion in compensation last year despite fairly poor returns for these investment vehicles.
The opinions and forecasts herein are provided solely for informational purposes, and should not be used or construed as an offer, solicitation, or recommendation to buy or sell any product.