Flotation

Taking up arms

Jul/Aug 08 issue
 

Shareholder activism is on the march, provoked by bad corporate stewardship, the inevitable disappointments of business in a downturn, changes in the law and a new breed of opportunistic investor. Robert Tyerman investigates

When the going gets tough, shareholders can turn nasty, and no-one is beyond reproach.

Take Sir Stuart Rose: the once-lauded “saviour’’ of Marks & Spencer found himself cast as villain when a sharp deterioration in sales at the retail giant dismayed investors, just when he was challenging the canons of good corporate governance by seeking to combine the roles of chairman and chief executive. Rose won the day and is now executive chairman.

But 22 per cent of the shareholding either voted against him or abstained at the company’s annual meeting. With M&S shares down by two-thirds in little more than a year, he is by no means out of the woods yet, as far as the City is concerned.

Whatever the size of a company, it can cost a fortune to cope with shareholder rebellions and divert a board’s attention from generating new business. Dissidents can be people who feel hard done by or institutions with serious ideas about how to improve a company’s performance. They can also be short-term chancers out to exploit a situation for quick profit.

Either way, those with experience of shareholder revolts insist that regular and candid communication with key shareholders is the best way to head off rebels. Sometimes a company really can benefit from paying attention to their ideas.

However, if the present incumbents believe an action is misguided, expect a battle to ensue. Baptist preacher and controversial financial wheeler-dealer Graham Ferguson Lacey (who once tangled with the late tycoon Tiny Rowland for control of his Lonrho mining conglomerate) has recently been locking horns with American sporting mogul John Berylson over the fate of football group Millwall Holdings’ £130 million property assets.

Amid accusations of “greenmailing” – offering to go quietly if bought out above the market price – on the part of some of the combatants, he was, in the words of a Millwall adviser, ‘seen off’ for the time being when the shareholder vote was taken, but not before a special meeting of the company’s shareholders had been convened
at a cost of £100,000.

In June, TV chef Hugh Fearnley-Whittingstall sought to persuade Tesco shareholders to compel the company to impose improved rearing standards on its poultry suppliers. But he failed to win the 75 per cent majority that would have been required to carry the motion.

AIM-quoted drug delivery systems developer Meldex has recently been battling with its founder, Barry Muncaster, and other shareholders over hefty share issues to fund acquisitions, which have heavily diluted their ownership, while the shares have plunged nearly 75 per cent in a year. Muncaster’s vehicle, Aquisitek, pulled out of takeover talks earlier this year, and recent bid approaches from director Steve Martin prompted intense speculation about who was backing whom.

Winning the day
Others have been more successful. Last year, Bob Morton, the forceful smaller company backer and boss, led a revolt by shareholders in AIM-listed software company Clarity Commerce Solutions, which he had chaired. The company now appears to be on the road to recovery.

The UK Shareholders Association (UKSA), which seeks to represent the interests of private investors, was involved in requisitioning a special meeting of shareholders in disaster-prone property lender Northern Rock, as well as mustering opposition to hard-hit Bradford & Bingley’s rescue rights issue. The association is keeping itself busy with several potential campaigns, according to spokesman Roger Lawson.

He says the UKSA is supporting a shareholders’ action group at loss-making gearbox technology specialist Torotrak. Lawson suggests the association is also ‘about to do something’ over Spark Venture Capital Trust Managers, at which critics have complained of expensive dividends and rewards to management, allegedly not justified by the trust’s performance.

Tim Stocks, head of international securities at European law firm Taylor Wessing, says this militant trend will accelerate until the UK corporate scene resembles the legal battleground of the US, adding that ‘really large activist investment funds’ are likely to multiply.

He points to the example of activist value investment groups, such as Laxey Partners, which has crossed swords with fund manager Peter Webb over Eaglet Investment Trust, which Webb formerly ran, and tilted at property giant Land Securities.

Legislation

Stocks argues that one of the prime motors for shareholder activism is the Companies Act of 2006. This imposes statutory duties on company directors in place of common law obligations and, while seeking to curb “vexatious” actions by opportunistic shareholders, in practice it makes it easier for dissident investors to convene extraordinary general meetings.

Stocks points out that ‘shareholders can now mount actions for negligence of duties against directors, even for things that happened before they became shareholders’. He argues that this ‘benefit-of-hindsight legislation’ gives shareholders an easier spanner to throw into the works and that new types of investor are likely to make greater use of such provisions than their predecessors.

‘Ten years ago, most institutional shareholders on a company’s register were long-only funds [i.e. they did not sell shares short]. Now there are hedge funds, activists, day traders and short sellers – at one time 20 per cent of Persimmon [the beleaguered house builder] was held by short sellers with borrowed shares.

‘That has changed for all time. Company boards find it hard to adjust to these different shareholder types, but they need to realise that they have to juggle different interests and listen more to their shareholders.’

Reluctant rebel
Ken Smith, now managing director of Clarity Commerce Solutions, knows just how hard it can be to steer a company through the upheaval of a shareholder revolt without damaging the business beyond repair.

An early investor in the company’s predecessor, Clarity Retail Systems, he kept in touch with its management team and rejoined as part-time finance chief at the invitation of charismatic CEO Graham York at the time of the revolt.

York, described by Smith as ‘a very convincing salesman’, asked Smith to help
fight off the attack by what he described as ‘opportunistic fast-buck merchants’, following a profits warning and criticism of the company’s acquisition programme. York narrowly won the day, helped by the votes of recently acquired company investors.

Soon afterwards, however, Smith says he discovered that ‘cash was haemorrhaging,
the software department was a shambles and customers were holding off’. Still seeing York as a ‘visionary dealmaker’, Smith says he tried to retain him in a ‘strategic’ role,
but ‘it did not work’.

Two experienced players, George Matthews and Steve Bellamy, came aboard and Smith became managing director. York later retired on health grounds with a £100,000 pay-off, and Bob Morton underwrote an urgently needed £1.8 million rights issue.

Clarity has appointed key new people, won important contracts in the US and one with the managers of Amsterdam’s waterways, acquired new software and halved its borrowings. The shares are still 71 per cent down from their 2005 peak, and Smith sees full recovery as a ‘three-year process’.

He says that ‘communication and integrity’ are vital in handling shareholders: ‘The company’s key mistake was not communicating with influential parties, like Bob Morton.’

Resolving disputes

Shareholder rebellions are not confined to public companies. For a private company, without the liquidity and exit route provided by the stock market, an important dissident shareholder can create a disabling impasse.

Whether public or private, going to court to solve a dispute with shareholders is often costly, time consuming and damaging to the business. There are cheaper and
quicker alternatives, provided both sides are willing to accept them.

Of these alternatives, Daniel Djanogly, partner of accountant Kingston Smith, observes that mediation can be the preferable route. This is non-adversarial and non-binding and depends on the disputants being willing to appoint a mediator and consider ‘creative solutions’ in a collaborative way.

Other routes include arbitration and expert determination. The former is a private tribunal where the parties appoint an arbitrator, whose decisions can cover liability and damage awards and are enforceable under the 1996 Arbitration Act. The arbitrator is immune from actions for negligence, can only undertake an investigation if permitted to by the parties in the dispute and must share the results with them. Djanogly says a ‘somewhat rougher form of justice’ is provided by expert determination. Here the disputants agree to appoint and pay a specialist, usually supplied from the disputes panels of relevant professional bodies such as the Institute of Chartered Accountants in England & Wales or the Royal Institution of Chartered Surveyors, to decide such issues as the fair value of someone’s shareholding.

The expert sets the terms and the parties agree to accept the final decision. Both sides have to put forward a submission and a binding decision is then made. ‘Expert determinations usually cost a few thousand pounds,’ says Djanogly. ‘They can take from a week to a month. If you have a lawyer acting for you, he or she will tend not to go for expert determination. They can’t work the system; there is no hearing and so they can’t sway the judge by their performance, and there is no appeal.’

One thing is guaranteed: when shareholders go to battle, be prepared for a fight.