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Unlocking value and the power of shareholder activism

28 November 2019

Tom Treanor, head of research at Asset Value Investors, argues that by engaging with companies in a constructive way, both the company and its shareholders can benefit from improved processes and transparency.

By Tom Treanor,

Asset Value Investors

Companies trading at a discount to true market value are often trading cheaply for good reason. It is down to the investor to judge whether there is the potential for the firm to narrow its discount and thus unlock far greater value.

When buying shares at a discount the key question to ask is, “what is going to change?” That question is at the very heart of being an activist shareholder, which we at AVI believe is a vital position to adopt in order to help companies reach their full potential.

Activism – whereby a shareholder uses its equity stake to pressure management into making changes – comes in a variety of different forms and can be a key driver behind unlocking value in a company’s share price.

Across the AVI Global Trust, there are three broad areas in which we currently invest: family-backed holding companies, closed-end funds, and Japanese operating companies with significant asset backing from cash and/or listed securities.

When it comes to family-holding companies, there is nothing to be gained from a confrontational stance. An investor could be as activist as they like but, ultimately, the families control the company and cannot be forced to take action that they do not want to do.

In cases such as this, our approach is more about aligning shareholder interests with those of the family, the owners, and ensuring that they are committed to being active owners of the business and its assets. By active ownership we mean spinning out parts of the company that could be more valuable standing on their own, or conducting share buybacks and pursuing M&A opportunities if they add value. If there is no track record of such activity, then the investment case becomes less compelling in terms of what could happen, and how much value could be added.

In closed-end funds, activism can be extremely important. Often the assessment of the investment opportunity includes a lot of qualitative factors. For an activist investor, often one of the larger shareholders, to get behind a company there must be a solid voting structure and either an independent, high-quality board looking out for the best interests for shareholders, or the possibility of forming a new one with these attributes.

We will often be one of the largest shareholders in a closed-end fund that we invest in and are very keen to be in the driving seat when it comes to pushing for change. Constructive engagement is usually the best course of action, but it can shift and become more active and aggressive when deemed necessary. This way we can help deliver a particular outcome that will ultimately lead to unlocking value.

A third area in which being an activist shareholder can reap rewards is in Japan. It is a market known for being home to cheap companies, and a market where pressure is increasing on companies to begin focusing on shareholder returns, to boost returns on equity and improve capital efficiency. 

Shareholder activism is in its early stages but certainly growing across the Japanese market. In the past, corporate governance standards have been poor. There was generally a lack of independence among board directors and a history of companies holding shares in firms they had commercial associations with. It has also been a rather insular culture, not only to outside foreign influences but also when it comes to how companies approach mergers and acquisitions.

It is a system which has, generally, acted to serve stakeholders, preserve jobs and look after pensioners by holding large amounts of cash on balance sheets, rather than focusing on rewards for shareholders. Slowly but surely this is changing, and engaging with companies in a respectful, patient and constructive form is the best form of activism in order to improve governance, and – as a result – boost valuations. A lot of investors may have lost patience with Japan, but with the right approach to shareholder activism there is the potential for huge growth to be unlocked.

AVI has become increasingly activist and more engaged, particularly in the closed-end fund space, as we recognise the power of what can be achieved by enacting change. By working constructively with company management and showing them the benefits of what change can bring, it is possible to represent the interests of shareholders and generate returns in a way that is not possible for other investors who are either unwilling or unable to engage. Ultimately, shareholder activism, when deployed sensibly, is a way of generating alpha. Returns unlocked by enacting company change will be driven by the shareholder, often resulting in strengthening performance that is uncorrelated to movements in the wider market.

 

Tom Treanor is head of research at Asset Value Investors. The views expressed above are his own and should not be taken as investment advice.

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