April 11, 2019

Activism: “Hey Hedge Funds, Thanks for Nothin’!”

Do activist hedge funds do anything to improve corporate performance?  According to this IR Magazine article, a recent study says the answer to that question is a resounding “NO!”  Here’s an excerpt:

Activist hedge funds are unable to effect meaningful change at corporations, according to a new research paper by a former academic. In a critical paper, ‘The unfulfilled promise of hedge fund activism’, JB Heaton, a former professor at the business and law schools of the University of Chicago and Duke University, pans the role of activist hedge funds.

He writes: ‘Hedge fund activism has mostly disappointed. While hedge fund activists are good at motivating sales of companies to potentially overpaying acquirers, hedge fund activism is neither the threat to corporate strength that hostile commentators have claimed nor a meaningful force for better corporate performance. Instead, more than a decade of research shows hedge fund activism to be economically unimportant to corporate performance one way or the other.’

Heaton believes there are three reasons why hedge fund activism has mostly disappointed. First, hedge fund activists have no comparative advantage in generating ideas for meaningful competitive advantage at target firms. Second, these activists likely suffer from a form of winner’s curse where the hedge fund activist is too pessimistic about the firm it targets. Third, they often target declining firms, the equity in which is unsalvageable by the time the activist has taken notice.

The study’s author says that hedge funds are basically good at two things: raising money from investors & pressuring companies to sell. Aside from that, they are “more or less impotent” to effect change at corporations.

John Jenkins