Profit from the Shareholder Activist Strategy - dummies

By David Stevenson

Like other hedge-fund strategies, the shareholder activist approach is also based on owning large-cap shares (shares in companies valued at US$10 billion or more). This time, however, it involves investors in the UK and around the world getting all muscular with the management of the company in which they own shares.

Imagine a simple scenario. A hedge-fund manager owns shares in a large technology company where its competitors are slowly but steadily eating its lunch. As the competition chips away at the market edge this tech company previously commanded, its share price has done okay but is no star.

The manager could profit from a pairs strategy, but can’t make money from covered calls because the company doesn’t issue dividends. She’s generally dissatisfied but does think that value resides in the company and its shares.

As a shareholder she decides that she’s had enough. She writes to the management and demands change, especially as she owns a chunky block of shares amounting to a few per cent of the company.

She wants the management to do something about the share price, ideally by changing the way it runs the company. She also expects the management to ignore her totally and so starts a campaign with other shareholders to create a fuss.

News articles appear and she corrals the group of investors ahead of the regular shareholder meetings. She puts up a rival bunch of directors and comes up with her own plan for change. Eventually the management caves in, makes changes, accepts her directors, starts selling businesses and reluctantly begins focusing on being nicer to the shareholders.

The share price ticks up and the activist shareholder sells out having made a decent profit by being a bit difficult.

This is exactly what happened a few years back to a leading US technology company (Yahoo) that had the misfortune to be on the wrong end of a campaign by legendary hedge-fund manager and activist, Dan Loeb. Most importantly, dozens of managers around the world use this strategy, with varying degrees of success and noise.

As a private investor, make sure that you work out where the activists are going to pounce next and whether they have much chance of making the shareholders new profits.