Activist Investing: The Event-Driven Strategy
We all know that hedge funds are really notorious when it comes to making money in the markets. Hedge funds use various strategies in the financial markets to make money both during a downturn and a bull run.
One of the strategies used by activist investors is event-driven investing, where hedge fund managers have an active role in generating catalyst events that unlock shareholder's value.
For event-driven hedge funds, the ability to assess the probability and forecast the timing of potential catalysts is a critical success factor for an event-driven fund to perform. A delay in a catalyst may shrink the return of the fund. Some of the hedge fund managers don’t predict such events rather cause such catalysts and make profits from their position.
Activist investors are a new breed of hedge fund managers who play a vital role in creating shareholders value and have an active role in corporate governance. In order to maximize value these active investors pick up a stake in undervalued companies or companies that is predicted to go through any corporate event such as M&A, Restructuring, Spinoff, etc.
These activists can act directly alone or join forces with other investors or funds to elevate the activist campaign. They do it to win a board seat and bring in influence in the company. Most of the activist investors believe that they can positively increase the shareholder's value by making decisions such as changing the management, selling loss-making business units, and cancelling contracts with certain parties which may not be in favour of the shareholders.
Here is a snapshot highlighting the activist campaign by top hedge funds in 2019
Activist investors usually acquire a substantial stake in the target companies so that it can make an influence in the decision making of the company. These types of strategies were not available during the early days of the hedge fund industry as traditional investors didn’t have the access to sizable capital required for such a large stake in target companies. Nowadays, with a high amount of risk capital available, it has opened doors for hedge funds to implement these strategies. Activist investing has seen an uptick in the recent times and continue to grow.
The activist’s approach to top management is usually friendly in the beginning, but it can get hostile if the requests of the fund manager are rejected by the top management in the company. As a key part of the investment strategy, the manager takes active participation in the important decisions to be taken by the management, the fund managers also interact proactively with the top management.
These activist investors mostly get involved in the key decisions of the companies by sitting on the board of directors, credit committees, offering advice to management, negotiating contacts with third parties, or initiating the sale of the business (e.g. LBO) or proxy fights to influence the decisions of the company.
The actions take to create value are:
1) Reorganizing the companies values and strategies
2) Disposal of non-core assets
3) Spin-off of business units
4) Distribution of cash flow to shareholders through share buyback or through a special provision of dividend
To achieve this, activists oust top management and bring in new executives to run the company. They use media and other public mediums to start their campaign.
Campaigns carried out in 2020 (so far) (source: HBR)
- 797 campaigns
- 9% successful or settled
- 38% either unsuccessful or withdrawn
- 53% announced but were unable to gain traction or are ongoing.
Some of the famous hedge fund managers who are involved in Activism are Bill Ackman, Carl Icahn, Nelson Peltz, Daniel Loeb, and many more.
One of the most interesting activist campaigns was the Herbalife short by Bill Ackman.
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