Some relief for treasurers whose companies have been plagued by activist investors: Most activist campaigns do not result in weakening credit profiles and some may even be mildly positive. Unfortunately, however, activists will remain a headache for corporate management for the foreseeable future.
Those are some conclusions reached by Fitch Ratings in a report published in mid-November that did a deep dive into the impact of activist investors on 14 large investment-grade firms that have faced activist campaigns since 2013.
Fitch classified activist proposals into five groups—those related to the board; modification of business strategy; balance sheet or capital allocation; M&A; and non-board corporate governance—and found nearly all the companies faced two or three of them. The campaigns succeeded 80 percent of the time, a significantly higher rate than the roughly 50 percent for the broader universe of US corporates tracked by Activist Insight since 2010. Fitch attributed that to companies’ high vulnerability at the time the campaigns were launched and significant shareholder support.
“Multiple activists agitating a single issuer also increases the likelihood of success,” Fitch said, adding this was the case for three of Fitch’s case studies.
In terms of the credit impact of activist campaigns, the results were mixed. Half of the 14 issuers analyzed by Fitch experienced negative rating actions, but most of those actions occurred prior to the activist campaigns. In fact, noted Fitch, activists often emerged in the wake of weak operating trends or corporate decisions that prompted rating actions.
Fitch took negative actions against only eBay and Mondelez International. The former was downgraded one notch, to A-, in October 2014 on the planned spinoff of PayPal and the potential for a more aggressive capital structure, and it was downgraded to BBB in July after the transaction closed. Mondelez was placed on negative watch in May 2014 due to uncertainty in its financial strategy following the announcement of a coffee joint venture and restructuring. Its BBB rating was affirmed in May after the deal closed, but Fitch placed it on “negative outlook” due to lingering concerns about increased shareholder-friendly activity and the potential that operating improvement would be slower than anticipated.
Only General Motors was upgraded, to BBB- from BB+, due to fundamental improvements in the company’s core business over the past several years and the expectation of adequate liquidity despite significant cash being returned to shareholders.
In terms of what drew activists to Fitch’s case study companies, 60 percent of them had underperforming equities and 40 percent had persistently weak operating trends when the campaigns were launched, according to Fitch. Two-thirds of them had monetizable assets or divestible business lines, and half could leverage their balance sheets with the use of excess cash or by incurring incremental debt. Only four had corporate governance provisions that were inconsistent with best practices.
Fitch found approximately 250 unique activist campaigns across nonfinancial US corporates in 2014 averaging two activist proposals each, similar to its 14 case studies. The greatest number of demands were board-related, representing about half of all public actions, followed by M&A at 20 percent, balance sheet activism at 15 percent, and efforts to modify business strategy and related to non-board corporate governance at less than 10 percent.
Fitch said activist activity is likely to “remain elevated” because the factors driving it in recent years, weak organic growth and cheap capital, remain in place. Fitch noted that assets devoted to activist strategies have growth at a 25 percent compound annual growth rate since 2010, to about $700 billion, with $320 billion of the total stemming from U.S.-based activists.
“Fitch also attributes the rapid growth in assets to activists’ ability to enhance shareholder returns,” the rating agency said. “Activist Insight’s global index has outperformed the MSCI World Index four of the past six years …”