NEW YORK: An Introduction to Corporate/M&A: Shareholder Activism

Shareholder Activism Overview 

Every economy needs a mechanism to maintain a properly functioning “checks and balances” system for the governance of publicly traded companies. Shareholder activism has cemented itself as the necessary external corrective measure for these companies. History has shown that boards of directors of underperforming companies tend to preserve the status quo while shunning accountability to shareholders. Since shareholder activism emerged as its own asset class more than a decade ago, activist investors have identified and filled this accountability gap worldwide.

Shareholder Activism as an Asset Class 

Shareholder activism as an investment strategy emerged over the years as a distinct asset class. According to Bloomberg, over USD74 billion was invested by shareholder activists in 2023. According to Barclays, in 2023, more than 225 activist campaigns were launched around the world – 48% in the US, 28% in Europe and 16% in the Asia-Pacific region – which, together with campaigns initiated in 2022, represented the most campaigns ever launched during any two-year period. Investors continue to wage these campaigns at companies of all sizes and across all sectors such as those of prominent activists like Elliott Management and Trian, at companies like Phillips 66 and Disney, while others play out more discreetly behind the scenes.

Types of Activist Campaigns 

Behind-the-scenes engagements with boards commonly aim to resolve investor concerns without public escalation but often serve as preludes to more overt campaigns. If the company and investor fail to reach a resolution, a director election contest can ensue in which the investor challenges the incumbents for board representation at the company’s next annual meeting. This traditional proxy contest approach requires the activist to formally nominate a slate of directors in accordance with certain procedures and by a certain deadline, as typically set forth in the company’s by-laws. Highly qualified director nominees remain a key to success, and investors can draw from an increasingly sophisticated, specialised and diverse pool of candidates ready to serve on activist-nominated board slates.

Types of Shareholder Activists 

The different types of activists range from common balance sheet activists to operational and corporate governance activists. M&A activists, including those who push companies to conduct a strategic review for an outright sale, block an ill-advised transaction or sweeten a deal, continue to feature prominently in the space despite a downturn in M&A activity in 2023. There are also a number of traditionally passive investors: these “reluctavists” predominantly pursue deep value investments and historically held passive, long-term stakes with no intention of any active involvement. Recognising the continued successful value creation in their portfolio companies by established, pure-play activists, these passive investors now exhibit a willingness to engage in an activist strategy to address operational, governance or other concerns. Each investment category includes numerous subsets of activists but, notwithstanding their diverse personalities, styles and strategies, all activists share the same fundamental goal – to unlock shareholder value.

Developments and Trends in Shareholder Activism 

In 2023–24, trends in the shareholder activism space include the following.

Shareholder activism builds momentum in 2023

While shareholder activism in the US was robust in 2023, it was not a breakout year in terms of the number of activist engagements. Many activists, particularly would-be first-time activists, stood on the sidelines in order to get a sense of what a full year under the universal proxy card rules would look like. Similarly, some activists were hesitant to initiate campaigns until the Securities and Exchange Commission (SEC) announced final rules governing its proposed modernisation of the Schedule 13D/G reporting system. Nevertheless, shareholder activists proved to be highly impactful in 2023 in terms of their ability to influence boards, obtaining a record number of board seats since 2018.

Global shareholder activism in 2023, despite extraordinary macroeconomic and geopolitical uncertainty, was just as robust as in 2022. With sharp spikes in the number of companies subject to activist campaigns in Europe, US activism accounted for less than 50% of global activity for the first time since 2020, according to Barclays.

New universal proxy era 

The highly anticipated universal proxy card (UPC) requirements for election contests in the US came into effect prior to the start of the 2023 proxy season. Under the new UPC regime, both companies and activists nominating director candidates are now required to list all director nominees on their respective proxy cards, giving shareholders voting by proxy the ability to vote on the election of any candidate regardless of which proxy card they use. Previously, separate proxy cards were used by the company and activists listing their respective competing slates, making it extremely difficult for shareholders to “mix and match” their votes among all candidates and requiring shareholders who desired to split votes among candidates to attend the meeting and vote by ballot.

Impact of UPC regime on shareholder activism

Reflecting on over a full year of election contests under UPC, fearmongering by defence counsel that the rules would reduce the costs of running a proxy contest and trigger an onslaught of campaigns by so-called “gadfly activists” never came to fruition. Instead, shareholder activists took a more surgical approach to running their proxy campaigns by targeting the most vulnerable members of the board. Leaner yet significantly more experienced, diverse and specialised dissident slates were strategically handpicked by activists to go head-to-head with the incumbent directors who lacked these qualifications and profiles.

A healthy number of settlements were also seen – the UPC regime resulted in shareholder activists conducting fewer control contests and more focused campaigns seeking to replace only the most vulnerable incumbent directors, so boards were more willing to settle on one or two seats rather than taking their chances at an annual meeting. In the new UPC environment, these settlements were often reached much earlier in the negotiation process than in prior years.

Modernisation of Schedule 13D/G reporting regime

In February 2024, the hotly debated proposed revisions to the rules governing 5% ownership reporting under Section 13(d) and 13(g) of the Exchange Act came into effect. Shareholder activists were pleased with the SEC’s decision not to go “all-in” on its proposed overhaul of the reporting regime, likely based on input from a wide range of investors that the proposed rules would subvert shareholder democracy. At the end of the day, the new rules were less transformative and more balanced than initially proposed. The deadline for filing an initial Schedule 13D was shortened to five business days (from the legacy ten calendar days) after crossing the 5% ownership threshold. The deadline for filing any required amendments to a Schedule 13D is now a more certain two business days (instead of “promptly”) after a triggering “material change”.

The SEC decided not to codify certain rules governing group activity, as originally proposed, that likely would have chilled shareholder communications that are vital for maintaining corporate democracy and instead issued guidance regarding the appropriate legal standard for determining when a group is formed. The SEC also stopped short of adopting substantive amendments on when to deem certain holders of cash-settled derivative securities as beneficial owners of the reference security, as originally proposed, that likely would have changed many activists’ game plans for building their ownership positions and instead issued guidance on circumstances in which the reference security will be deemed to be beneficially owned.

Troubling developments in company defence tactics

A disturbing trend has been observed in the number of companies attempting to invalidate nomination letters for purported failures to comply with their nomination procedures. It has become ordinary course for companies, on advice of their counsel, to seek to invalidate shareholder nominations and disqualify dissident nominees for various hyper-technical deficiencies or “foot faults” that have nothing to do with the quality of the nominees. Meanwhile, director questionnaires that companies typically require dissident nominees to complete continue to grow in length and complexity, adding undue costs to what should otherwise be a straightforward nomination process. Shareholder activists have been fighting back by filing lawsuits against companies that have crossed the line with these defence tactics.

On this front, shareholder activists scored a monumental victory at the end of 2023 when the Delaware Chancery Court in Kellner v AIM ImmunoTech, Inc. invalidated four of six amended advance notice nomination by-law provisions (ANBs) for being “overbroad, unworkable, and ripe for subjective interpretation by the Board”. In rendering her opinion in Kellner, Vice Chancellor Will stated that this case “hints at what coming activism disputes may bring”. While some companies will act responsibly by voluntarily remediating problematic language in their existing ANBs directly in response to Kellner, it is expected that similar lawsuits will be filed in 2024 by shareholder activists seeking to enforce nominations rejected by entrenched boards for purported non-compliance with indecipherable and subjective ANBs.