Photo: Jessica Weinberg. Source: National Park Service
Predatory investors, or shareholder activists, get mixed reviews. On one hand, these investors are exercising their rights as company owners to have management unlock some of the value inherent in a company’s franchise. On the other hand, they often look for short-term gains that can come at the expense of a company’s long-term prospects. For most of them, holding a position for over a year is rare. They want to get their money and then get out.
They target companies where revenue growth is falling. Lately, the market has put a premium on growth, so disappointments on the top line hits share prices hard. That’s when activists get involved, suggesting capital allocations like debt-funded share buybacks, or division sales, or massive cost-cutting to support big dividend increases. When Apple’s sales growth stumbled in 2013, activist investor Carl Icahn took a $3.6 billion stake in the company and proposed that they purchase over $150 billion of their own shares – about a third of the company’s market cap.
In the end, growth returned to Apple, the shares rebounded, and the company never acted on Icahn’s plan. But the larger point is this: activists target cash-rich slow-growth companies. But their proposals focus on paying more money shareholders, not reigniting growth. To a hedge fund with a spreadsheet, the market looks like a capital allocation problem. But the path to a company’s long-term returns usually involves making good investments, not distributing capital.
That’s why activists have also targeted slow-growing giants like Nestle, Proctor & Gamble, BHP, and even GE. Such targets would be unthinkable if the shares were zooming. After all, shareholders are unlikely to upset the apple cart when management’s strategy seems to be working. But GE’s sales have been declining for years. They’re a soft target.
There don’t seem to be that many other GEs out there, though. Predatory, activist investors depend on finding sick, weak companies that they can lever-up and extract cash from. They’re not so much predators, as scavengers. And when there aren’t enough carcasses available, scavengers tend to fight with one another. Witness Icahn’s fight with fellow-activist Bill Ackman over the company Herbalife.
Illustration: John J. Audubon. Source: Wikipedia
After all, eagles don’t flock.
Douglas R. Tengdin, CFA