DealLawyers.com Blog

Here’s news from Chris Cernich, ISS’ Head of Mergers, Acquisitions, and Proxy Contests Research:

The post-crisis resurgence of contested elections, which began last year, continued into the 2013 proxy season. Proxy solicitations to replace some or all incumbent directors, which had fallen to a total of just nine in the first half of 2009, rose to 19 in the first six months of 2012, and 24 in the first half of 2013. The median market capitalization of the targeted companies also increased substantially from a five-year low of $24 million in 2012 to $141 million in 2013.

This $141 million median in 2013 was half again as high as the median of $94 million in 2009 – the record year for contested elections in the U.S.–suggesting that, in the current resurgence, activists are targeting larger companies than they did even at the recent height of the activism cycle. Activists did in fact target significantly more large companies in the first half (1H) of 2013 than in the same period in prior years; eight of 24 contests for board seats, or 33 percent, were at companies with a market cap greater than $1 billion. In the same period of 2012 and 2011, by contrast, only two targets had market caps of greater than $1 billion, and even in 1H 2009 only three targeted companies were larger than $1 billion market cap. Large, well-known activist names such as Pershing Square, Elliott, or Jana Partners, for example, have continued to engage their portfolio companies over the past several years, but had generally been able to win concessions or settlements without going all the way to a contested election.

In 2013, by contrast, many of the activist situations which in previous years might have settled simply did not take that path – or settled at the 11th hour, sometimes on the eve of the annual meeting itself. Some of the activists leading these campaigns had prior experience in large-cap activism – and generally settled at the last minute. TPG-Axon, for example, which ran a consent solicitation to replace the entire board at Sandridge Energy, ultimately settled for four seats on an expanded board of nine and a commitment to fire the CEO within three months. Elliott Associates, on the eve of the shareholder meeting, settled for three of the five seats it sought at Hess. Others – such as Ader Investment Management, which won one of three contested seats at International Game Technology – were newer funds with no activism track record.

Perhaps the most challenging of these large contests was led by a newer fund, Corvex, whose founder was formerly an executive under Carl Icahn. Corvex reportedly received written consent from 70 percent of outstanding shares to replace the entire board of Commonwealth REIT. None of its nominees has yet been seated, however, because the Commonwealth board adopted a defensive bylaw requiring a shareholder own at least 3 percent of shares for a minimum of three years to be eligible to run a consent solicitation. The governing documents also require any shareholder disputes be settled through binding arbitration, however – a Maryland judge rejected Corvex’s attempt to challenge it in the courts – and the three-member arbitration panel has not yet issued its final verdict on the legitimacy of the consent solicitation.

The striking difference in 2013, however, is not just the unusual number of large target companies, but the paucity of targets in what had previously been the “sweet spot” for U.S. activists: targets with market caps between $100 million and $1 billion. In 2009, 39 percent of targets were in this range; in 2010 and 2011, as the number of total contests began to fall, the concentration of targets in this range increased to 50 percent and 78 percent, respectively.

In 1H 2013, however, only four contests–17 percent of the total–targeted firms in this range, and none of those four contests was near the upper end of the range. Instead, building on a trend which began in 2012, the largest cluster of contests was at tiny companies with market caps of less than $25 million. In 1H 2013, nine of 24 contests–38 percent of the total–were at companies worth $25 million or less. The activists in these situations tended to be smaller funds or individuals, though some, such as Stilwell Group, have run a number of contests at microcaps in recent years.

The dissident “win rate,” defined as the percentage of situations in which dissidents won or settled for at least part of the seats they sought, jumped significantly in 2013. In 1H 2011 the dissident win rate was 56 percent; in 1H 2012 it fell to 43 percent. In 1H 2013, however, dissidents achieved as least part of their objectives in 70 percent of contests for board seats. The rate was slightly lower, 64 percent, at very small companies (market caps of less than $100 million), and slightly higher, 75 percent, at companies larger than $100 million, perhaps reflecting the smaller concentration of institutional shareholders (who generally vote in all elections) among the smallest of companies. At each size range of targets, however, the dissident “win rate” jumped significantly from 2012 levels, and nearly doubled at the largest tier, targets with market caps greater than $1 billion.

Contested Mergers

1H 2013 also saw the return of the contested merger. Shareholders rebelled against a number of proposed transactions, particularly in the tech sector, on both valuation and strategy. In most cases the opposition was overcome with a small bump in offer price, generally around 10 percent. Several saw competing bidders ignite a price war.

In five situations, however, the bidder was an insider, situations which present particularly thorny principal/agent complications for investors. At Clearwire, the bidder, Sprint, was both the controlling shareholder with unusual governance rights to thwart other bidders and a strategic investor with urgent need of the wireless spectrum which represented the company’s most valuable asset. The other four were leveraged buyouts involving or led by executives; the largest of these, at Dell Inc., has seen its shareholder meeting adjourned or delayed multiple times, and the price bumped twice at the last minute, for a total of 2.3 percent, amid sustained public opposition from a number of investors already deeply convinced by and committed to the transformational plan the company has already been pursuing.

This blog is derived from ISS’ 2013 Proxy Season Review – United States, which can be found on Governance Exchange.