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Wachtell Lipton Discusses How to Deal with Activist Investors

Activism has fully rebounded from the brief pandemic dip, with the past eighteen months seeing increased activity.  As we have previously noted, regardless of industry, size or performance, no company is too large, too popular, too new or too successful to consider itself immune from activism.  Although poor economic or stock price performance can increase vulnerability, even companies that are respected industry leaders and have outperformed the market and their peers have been and are being attacked.  And companies that have faced one activist may be approached, in the same year or in successive years, by other activists or re-visited by a prior activist.

While M&A theses have continued to catalyze activist activity, recent market volatility, ongoing macroeconomic headwinds and earnings pessimism have prompted activists to pivot to strategic and operational theses, particularly at companies facing cash flow constraints and slower growth following pandemic-era exuberance.  Meanwhile, companies with robust balance sheets continue to face calls to return more cash to investors in the form of buybacks and special dividends.  With some of the largest and most established activists sitting on record levels of committed capital, large- and mega-cap companies have become particularly attractive investment targets, hence resulting in several instances of “swarming.”  The new universal proxy rules, which took effect this past proxy season, do not yet appear to have significantly affected activist tactics or levels of success, although the number of settlements increased this year, driven possibly by companies believing that activists are now able to more effectively target and replace at least some individual directors, and/or by activists believing that they are less likely to win multiple seats when shareholders can mix and match between activist nominees and company nominees.

Although asset managers and institutional investors will often act independently of activists, the relationships between them in recent years have encouraged frequent and aggressive activist attacks.  A number of hedge funds have also sought to export American-style activism abroad, with companies throughout the world now facing classic activist attacks.  In addition, the line between hedge fund activism and private equity continues to blur, with some activist funds becoming bidders themselves for all or part of a company, and a handful of private equity funds exploring activist-style investments in, and engagement with, public companies.

While traditional activism focused on short-term profit, stock price and total shareholder return (TSR) continues, a new set of activists has emerged, galvanized by climate and other environmental, employee/human capital, social and governance concerns.  Some of the campaigns launched by this new set of activists are economically driven, but many are issue-driven and require targeted companies to tailor their response strategies accordingly.

For many years, we have been updating this memo based on recent developments, evolving trends and our experiences avoiding, defusing, resolving and prevailing in contested situations and proxy fights to provide the most cogent and current advice to our clients and friends.  Summarized below is a snapshot of some of the tactics and themes deployed by activists, followed by a checklist of matters to be considered in putting a company in the best possible position to prevent, respond to or resolve an activist attack.

The Attack Devices Used by Activists

Current SEC rules permit an activist to continue to accumulate shares secretly for ten days after acquiring a 5% position before being required to make public disclosure, as well as to acquire larger derivative positions without public disclosure.  They also allow activists and institutional investors to privately communicate and cooperate so long as they do not form a “group” as defined by the SEC rules.  We have long sought to address these loopholes, and amendments to these rules are currently pending, which would, among other things, shorten the time period for disclosure of activist positions.

Prevention of, or response to, an activist attack is an art, not a science.  There is no substitute for preparation.  The issues, tactics, team and approaches to an activist challenge will vary depending on the company, the industry, the activist and the substantive business and governance issues in play.  To forestall an attack, a company should regularly review its business strategy and portfolio, how it is balancing growth and profitability, margin priorities and pressures, its stakeholder relationships, engagement strategies and feedback (particularly as it relates to sustainability and DEI strategy), and its governance and executive compensation.  In addition to a program of advance engagement with investors, it is essential to be able to mount a defense quickly and to be agile in responding to changing tactics.  A well-managed corporation executing clearly articulated, credible strategies can prevail against an activist by making its case to the rest of its shareholders.  A well-advised corporation should also play offense in anticipation of activism and in resolving activism.

Many investors increasingly expect companies to seek to engage constructively with activists.  Given the risks and potential harm of a full-blown battle, in certain situations the best response to an activist approach may be to seek to negotiate with the activist and reach a settlement on acceptable terms, if such a settlement is feasible, even if the company believes it could win a proxy fight.  However, when a negotiated resolution is not achievable on acceptable terms, whether because the activist’s proposals are inimical to the company’s business goals and strategy or because the activist is unwilling to be reasonable in its negotiation, the ability to wage an effective campaign in response to the activist will depend on advance preparation, strong alignment between the board and management, proactive action, good judgment and effective relationships with shareholders.

Advance Preparation

Create Team to Deal with Activism:

Shareholder Relations:

Prepare the Board of Directors to Deal with an Activist Situation:

Monitor Trading, Volume and Other Indicia of Activity:

Responding to an Activist Approach

Response to Non-Public Communication:

Response to Public Communication:

This post comes to us from Wachtell, Lipton, Rosen & Katz. It is based on the firm’s memorandum, “Dealing with Activist Hedge Funds and Other Activist Investors,” dated August 28, 2023.

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