This article was first published on Activist Insight Online on December 5, 2019. For more information about the product, click here.
U.S. companies are increasingly concerned about shareholder activism disrupting their businesses and are incorporating it into the risk factors section of their annual reports in record numbers. According to an analysis conducted by Activist Insight Online, 193 U.S. companies cited shareholder activism as a risk factor in 2019, compared with 32 in 2014.
This number has advanced gradually since 2014 by an average of 45%, with the biggest increase (80%) registered in 2016. Indeed, 2016 was one of the busiest years for activists in recent history with 489 U.S. companies publicly subjected to activist demands.
Only in 2018 more companies were targeted, while 2019 is set to be well below last year. Roughly half of the 244 companies that mentioned shareholder activism as a risk factor between 2014 and 2019 were publicly subjected to activist demands.
Prepared for the worst
Although a much larger number of companies to experience activism first-hand have not deemed activism a risk to their businesses, the pace of growth indicates that it has become a preoccupation for corporate America.
“Activism is on the list of every company because today nobody is safe, whether you’re a small cap or a microcap,” Tom Ball, former senior managing director at proxy solicitor Morrow Sodali and the founder of consultancy Vanderbilt Consulting, told Activist Insight Online.
FedEx, Realty Income and Fortinet are some of the 16 S&P 500 Index companies that included activism in their risk factors in 2019, despite not facing any public demands from activists. Automatic Data Processing started including activism as a risk in its annual report in 2017 when it was targeted by Pershing Square Capital Management for a board reshuffle that eventually failed. Still, ADP left the risk in its 2018 and 2019 reports, saying activists could be “costly and time-consuming” and disrupt its business. ADP’s stock has surged 53% since the proxy contest ended in November 2017, beating the S&P 500 Index by 31 percentage points.
Companies’ fear of activism might be partly driven by their own advisers. “There is a whole cottage industry now who are out talking to their clients and oftentimes through the lens that you are going to be under attack,” Ball said. “When you have a bank coming to a company saying you are vulnerable and here’s why, the board’s going to listen.”
Justify the risk
Whether adding activism as a risk factor is justified depends on the circumstances, even though for companies this may appear to produce no harm. Bonnie Roe, a partner at the law firm Cohen & Gresser in New York, believes companies that have been targeted by activists are right to provide explanations about related costs and warn about the potential risks, but she opposes the inclusion of a generic risk factor that says “the market is full of activists.”
For instance, cybersecurity software provider Fortinet said in its annual report that its “future direction” could be impacted by actions of activists and could have “negative business consequences,” but it did not expound on the motive. Although Fortinet has not received a public demand, Starboard Value was briefly invested in the firm between March 2018 and September 2019 while sometime activist BlueHarbour Group owns a toehold stake. Fortinet did not reply to a request for more details about its risk factors.
“It’s like blaming other people for your weakness, and may not accurately describe any risk,” Roe said. The inclusion of a risk factor needs to be followed by a detailed explanation of why the company thinks it is vulnerable, she added.
Indeed, the Securities and Exchange Commission (SEC) has been pushing issuers to be more informative with their risk factors and avoid clichés. “Companies should take care not to bury the reader in generic boilerplate or laundry lists of risks that might apply to any company,” William Hinman, SEC’s division of corporate finance director, said in a public speech on March 15.
Jeff Gramm, the founder of activist investment firm Bandera Partners and author of Dear Chairman, has a more nuanced view. “Part of me thinks it’s silly, but activism has destroyed value at firms before,” Gramm told Activist Insight Online in an email. “And there is no harm in adding additional risk factors…, so I can see why lawyers might include this one.”