Tom Quaadman – May 27, 2015 – Investor’s Business Daily
In this active proxy season we have seen activist investors flex their muscles. There is good and bad in these fights, but the question is what is productive and what is harmful.
Activism can be beneficial for all shareholders if it spurs an honest discussion amongst management and investors about the state and direction of a company. Such a debate can lead to many outcomes: Stay the course, make changes or radically change leadership and direction.
To see how the system should work, one need look no further than the recent director election at DuPont. Spurred on by Trian Fund Management’s assertion that the company was underperforming, management laid out the case on how the business is being transformed.
Emboldened by the new Securities and Exchange Commission guidance on proxy advice, large institutional investors ignored the recommendations of ISS and Glass Lewis and decided that management’s plan was in the long-term economic interests of their fund members.
This is how the system should work, and follows the corporate governance principles the U.S. Chamber of Commerce unveiled in 2009:
Corporate governance policies must promote long-term shareholder value and profitability but should not constrain reasonable risk-taking and innovation.
Long-term strategic planning should be the foundation of managerial decision-making.
Corporate executives’ compensation should be premised on a balance of individual accomplishment, corporate performance, adherence to risk management and compliance with laws and regulations, with a focus on shareholder value.
Management needs to be robust and transparent in communicating with shareholders.
And then there is the bad.
Short selling — when an investor bets that a stock will decline — is a lawful activity that helps keep markets liquid and efficient. The problem occurs when corners are cut or there are no clear rules of the road to define permissible or inappropriate behavior.
In 2008, the chamber raised concerns about naked short selling, taking a short position without holding the stock. The SEC followed with rules to build out transparency to prevent naked short selling.
Lately, we have started to see a rise in new activities where an investor takes a short position and then starts an information campaign designed to drive down the price of a stock. If the information campaign is accurate, that could be helpful; if not accurate, it could cause great harm.
A recent, highly publicized example would be the fight between Pershing Square Capital and Herbalife. Pershing has taken a billion-dollar short position and, according to press accounts, spent upward of $75 million on public relations firms in its fight with Herbalife.
Also, Pershing and various outside groups have pressured federal, state and local governments to investigate Herbalife. Press reports cropped up this spring that the FBI is investigating potentially illegal payments to individuals in exchange for false public statements designed to drive down Herbalife’s stock price.
While we have to await the outcome of the criminal investigations, these allegations are indeed troubling. A fulsome debate, as with DuPont, can lead to a win for investors and businesses. However, the spread of false or inaccurate information can needlessly destroy a company and harm its investor base.
We all hold free speech as an inalienable right but also agree that yelling fire in a crowded movie theater is illegal.
Robust and constant communication between management and investors has been a positive corporate-governance evolution over the past generation. However, policymakers should keep their eyes on the ball to prevent disinformation from creating unnecessary havoc in the markets.