An entity, whether as an individual or institution, purchases a substantial amount of a company's shares to gain seats on the company's board of directors.
Activist Investor Details
Activist investors' main goal is to take control of a company's interest, in other words, influencing how the business operates. They do so to be able to make powerful changes to companies. By taking the matter into their own hands, activist investors believe they can unlock 'hidden' values or fix the problems of their targets.
You can say that by buying the plentiful amount of stake of a company, an activist investor effectively turns a public company into a more private entity. If an activist investor concludes that there are flaws within a company's management, few options are available once they acquire it. One option is to influence the decisions of the current management. Or, they can opt to replace the people on the top management altogether.
Activist investors are also known as "shareholder activists," as they attempt to use their rights as public corporations' shareholders to enforce changes. These changes may target specific aspects of a company, such as its environmental effect, profit distribution, and business model. To reach their goal, activist investors usually start with purchasing a company's minority stake. Afterward, they use various tactics like media pressure and litigation threats to force a company's management onto the discussion table.
Real-World Example of Activist Investor
One of the most well-known activist investors is Bill Ackman, founder, and CEO of Pershing Capital, a hedge fund management company. The first significant move Ackman's hedge fund made was to purchase a significant amount of shares of the fast-food chain Wendy's International in 2005. Around one year later, however, Pershing Capital left the company and sold its shares at a considerable profit, reducing its stock price and putting the business in a weaker position. Ackman made another big move by holding a 10% stake in Target Corporation in 2007, valued at $4.2 billion.
Another famous activist investor is Carl Icahn, founder of Ichan Enterprises (a conglomerate company), sometimes at odds with Bill Ackman. Icahn founded his company in 1968 and has been taking control of companies through share purchases. His targets include Yahoo!, Apple, Motorola, Viacom, Western Union, Time Warner, and more.
Significance of Activist Investor
We can't say that all activist investors are automatically good or bad for other investors and the companies themselves. There can be advantages and disadvantages involving events related to activist investors in most situations, both short-term and long-term. For companies, activist investors may provide fresh ideas to improve operations, especially if there's a positive relationship between the activist and the management. Additionally, the company's stock price may shoot up following the acquisition, providing the opportunity for other investors.
Active investors can also bring potential downsides. The most obvious one would be that not all changes activists bring about will result in positive outcomes; sometimes they make things worse. Or, their plans may not come to fruition until a faraway future. Activists are indeed perceptively smarter and more experienced than the average investors. However, they can still make wrong moves or do things at a bad time.
For other investors, activists may spell a disaster for them if they suddenly decide to sell all their shares without notice, dropping the company's stock price. This will most likely catch smaller investors off guard and make them lose money. Keep in mind that it's normal for activists to put their agenda above everybody else's.
Types of Activist Investor
There are three types of activist investors: individual, private equity, and hedge funds.
- Individual Activist Investors are typically those who are extremely rich and influential. They have the resources to buy substantial shares to enter the board of directors, the group of individuals representing shareholders. In history, the majority of individual activist investors are renowned figures in financial and investment fields.
- Private Equity institutions are firms that have an interest in turning publicly traded companies into private ones. By turning companies private, activist investors can influence a company's business decisions. Private equity institutions generally look for firms that are undervalued or firms that will synergize well with investors.
- Hedge Funds are pooled funds that apply various strategies to generate active returns for their investors. In the context of activist investors, hedge funds can act like private equity institutions or individuals. Hedge funds' main characteristic is that they often don't prioritize the target companies' growth. Their main goal is to get profitable using numerous means. Hedge funds often make aggressive moves and are prone to controversies and disregarding other investors or Investment Policy Statement (IPS).