Proxy Fight in Australia

Mooted reforms to proxy legislation in Australia may put a muzzle on shareholders due to increased disclosure requirements between proxy advisers and fund managers.

The right to speak freely. It is the foundation of democracy and a market-based economy. But it is under threat right now if the Australian Government’s proposed changes to proxy reform are anything to go by. Treasurer Josh Frydenberg and his department are on a rampage.

Proposed changes include forcing proxy advisers to give listed companies a week’s notice before they send voting recommendations to clients (fund managers), plus, the research on which their decision is based. Also, proxy firms would have to give clients access to a company’s response. 

But the most spirited proposal is a measure that would force proxy firms to be independent of super funds. That’s an instant farewell party for the Australian Council of Superannuation Investors (ACSI). ACSI advises funds that control about 10% (on average) of all top ASX200 companies. Problem is that ownership of the firm lies with 36 institutional investors (mostly local industry super funds) with assets of more than $1 trillion combined. Goodbye ACSI. Is independence the sole determinant of good advice?

Other players in the proxy adviser space include Ownership Matters, CGI Glass (a branch of the San-Francisco based advisory) and ISS—majority-owned by Deutsche Bourse Group. Mr Frydenberg wants to increase the transparency of these advisory firms in a misguided attempt to increase the transparency and accountability of proxy advice. Why? They are considered too influential when it comes to corporate governance in Australia. And we have a high degree of institutional investment in Australia owing to compulsory super.

A Driver’s Licence

The fact none of these advisory firms require a Financial Services licence is another point of concern for Treasury and company directors. Going forward, this might change. A Treasury consultation paper says there is “insufficient public information today to determine whether superannuation funds, in this area, are acting in a manner consistent with their legal obligations.”

Licencing aside, the proposed changes to the regulation of proxy advisory firms all add up to more costs, more headaches, and sadly, less incentive for funds to stick their neck out on crucial voting issues. We can see the cushy Australian corporate director club looking on with a wry grin. Superfund members and shareholders will start to bear the cost of this heightened transparency in the form of higher fees and higher expenses for corporate governance.  

The Old Days

So just when it was looking like things were changing for the better on the ASX (growing shareholder activism), it appears the days of sleepy boards and nonchalance for shareholder rights will continue.

From our point of view, there is simply no evidence to support the grievances of company directors who believe they are shackled by dissenting proxy advisory firms. According to an ASIC review conducted in 2017, proxy firms recommended “against” votes in 12 per cent of resolutions put forward by ASX200 companies. Not all of them—12 per cent of them. And of the 12 per cent, only 17 per cent on average received a dissenting vote from shareholders.

Does this demonstrate a heavy-handed and unnecessary influence by proxy firms? We think not. There were also reports during the 2017 AGM season of large institutional shareholders who decided to vote against resolutions that were the subject of a ‘for’ recommendation by proxy advisers. This is consistent with representations made to ASIC by institutional shareholders that they do not follow proxy advisers’ recommendations automatically.

Further, a recent article in the Financial Review showed 96.2% approval for 7,500 non-executive director elections over the past decade. Only 6 candidates were defeated. And “no board of an ASX 300 company has been spilt following a second-strike vote, and of the 1321 resolutions proposed by ASX 200 companies in 2020, only 36 votes went against the company.” Yes, a grand total of 36.

Follow the Leader

It seems we are walking in the footsteps of US Securities Exchange Commission who last year introduced reforms requiring proxy materials be filed early to give companies time to respond to proxy recommendations and requiring proxy firms to disclose any conflicts of interest (like reforms introduced in Britain a year earlier).

Proxy advisers in Australia have obligations under the Corporations Act to ensure any financial services are efficient, honest, and fair, while they must not mislead or deceive in any activity. Let’s hope it remains that way.

Otherwise, we see shareholder rights being weakened, with a shaky and generic superannuation fund voting system to follow. A diversity of views is surely an essential component of good governance. If those views are cancelled then we are taking a step backwards, not forward.

Australia does not have any protections of free speech by law, but this does not mean it should reduce the ability of advisors and their funds to cast their opinion. The Member for Kooyong, please let market participants speak freely when it comes to corporate governance.

Why Shareholder Activism Remains in its Infancy in Australia

Investors on the ASX feared an all-out assault when BHP Billiton was raided by an infamous New York-based hedge fund in April 2017.

But the attack from Elliot Management failed to spark any major revolt among retail or institutional investors. And the introduction of new investment managers focused on activism has been tepid.

In fact, you could argue there are less than a handful of true activists in Australia to this day. They include the Tenarra long-short funds, the 360 Capital Active Equity Value Fund, Sandon Capital, Viburnum Strategic Equities, and Armytage Microcap Activism Fund.

You could throw in other part-time activists who allocate a smaller piece of the pie to activism. Doing this would include the likes of Geoff Wilson’s Wilson Asset Management, Allan Gray, Perpetual Limited, Tribeca Investment Partners, and VGI Partners.

Still, less than a dozen activist managers all up. Of course, there is a lot of influence behind closed doors in corporate Australia. But it is impossible to track. We will leave the shadow influence out for now.

Why Not More?

Well, there are three major reasons we believe activism remains a dark horse in Australia. They include:

1. An unhealthy acceptance of underperforming management teams among fundies and investors

2. A level of ‘corporate caginess’ among managers when it comes to transparency

3. A lack of support for managers who have been inserted as would-be activists on the boards of listed companies

These problems exacerbate in the form of little marketing of shareholder activism as a strategy. Or even a viable segment of investment management. Throwing all this into a pot means you’ve got an industry lagging its big cousin in the U.S.

In our defence, we are second in the world when it comes to activism. Even Japan (11 campaigns in the first quarter of the year) cannot match our level of activity (12 campaigns) despite the size of their market (Japan has a market of US$5.7 trillion vs the ASX at US$2.8 trillion).[1]

A Long Road Ahead

The tinder is flaming on the ASX you might say with favourable laws in place like the two-strikes rule and a 5% vote required for an EGM, but we have a long way to go.

Research by the lead trackers of activism across the globe, Activist Insight, found there were 62 activist targets in Australia in 2020, well down on 2018's record of 81 targets and down more than 10% from 2019 (73).[2]

At least two-thirds of the actions were board-related and were mostly isolated cases of outrage against generous performance and pay incentives.

Only 10 percent of targets were called out on issues regarding business strategy. As above, 10 percent might be understating the extent of rumblings behind closed doors between shareholders, management, and boards.

More Talking Please

One thing is clear though: the advent of Australia's two strikes rule, which can trigger a board spill if more than 25 percent of shareholder votes reject the remuneration report two years in a row, has forced directors to increase their dialogue with shareholders. Some directors like this. The majority don’t (especially where an entrepreneur-founder is non-existent on the board of directors).

But this new rule has created a grey area for the scope of shareholder activism and its definition. Going after a campaign based on pay and bonuses is reactive and therefore not a true form of activism. Why? Reacting to events ex-post does not unlock material value in a proactive manner. That is the whole point of activism.

Remuneration campaigns are short-term fixes as well. Any dispute is typically settled by way of shareholder rights provisions that exist in Australia.

In contrast, true activist campaigns tend to focus on structural and/or strategic issues. In most cases, these actions have a more significant impact on value creation for all stakeholders in a listed company.

Looking Way Down the Road

True activist campaigns are proactive in nature almost always take a long time to implement. A high degree of expertise and staying power is required for shareholders and management to achieve their desired outcome as well.

The key is changing the perception of activism and showing boards how effective an activist campaign can be in the presence of an open dialogue between key stakeholders.

Gone are the days of the corporate raider. The modern shareholder activist is making the transition from ‘thorn in the side’ to trusted confidant and value creation specialist.

May we see more activist campaigns running on the ASX soon.

[1] Data from Insightia report, “Shareholder Activism in Q1 2021” and Wikipedia.

[2] Data from Insightia report, “Shareholder Activism in Q1 2021.”

What is Activist Investing and Why is it Important?

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What is Activist Investing and Why is it Important?

Influence Without Control

The goal of activist investing is to initiate fundamental change and generate shareholder value improvements. Constructive activists have a high research investment spend per company, relatively long holding periods of around three to five years and high concentration in their asset mix.

An activist will typically recruit experienced industry professionals to provide knowledge about significant value drivers for a specific company or industry. In a nutshell, an activist investor is a hybrid—somewhere between a full-control model, such as private equity, and a more active or passive asset manager, such as a traditional managed fund.

A constructive activist investor's primary focus is having a significant influence on a company's plan without paying for full control like a private equity firm would.  Achieving the objective goal of influence requires intelligent communication with major shareholders and the media. Resorting to costly and acrimonious public battles is avoided rather than embraced. 

A thoughtfully crafted value-creation agenda based on diligent research and careful analysis of an enterprise for months at a time, if not years, is a typical scenario before investment. Practical, highly commercial collaboration with management behind the scenes is essential as well. And sometimes, the 'stick and carrot' approach is required to motivate target companies into action.

Why is Activism Important?

A shift in power between management and shareholders has ushered in an era of 'corporate management.' Shareholders, in a sense, have become disconnected from their investment as the Board of directors and senior management of listed companies continue to find ways to exert more control. Many apparent conflicts of interest arise in this situation. 

Today, corporate management often acts as if they own a company. However, the law clearly states shareholders do. Management is merely an employee—a corporation's Board of Directors governs management. The Board of Directors works for and answers to the shareholders—the real owners of the company. Management frequently manipulates control of the Board of Directors (Board) by populating it with friends and acquaintances. They are honoured to become Board members, yet, afraid to voice objections due to fear of losing their position. 

A "rubber-stamp" Board can lead to a host of problems. Yes, this is not always true, of course. Honest, capable, and ethical management teams endeavour to create value for shareholders daily. But the trend towards management making decisions not in shareholder's best interests continues. Typically, shareholders are not well versed about the companies they own, nor are they well informed enough to prevent or stop corporate corruption in the making.  

A Way Forward with Activist Investing

Constructivist Shareholder Activism is the process of shareholders becoming involved in the governance and management of the companies they own. The key is representing shareholders and constructively working with boards, not in a hostile manner like some of the old corporate raiders.

While owning a minority of a company is typical, an Activist's goal is to create value for ALL shareholders. And many studies have shown shareholder activism produces returns superior to the overall market returns with much less risk. The Activist Insight Index, which tracks dedicated activist funds worldwide, has returned an average of 14.2% per year since 2009, against 14.5% for the S&P 500 Index and 9.5% for the ASX 200.[1]

Exposure to an activist strategy or fund offers an intelligent diversification alternative for most investors and qualifies as a healthy inclusion in a balanced fund.

[1] https://abl.sfo2.cdn.digitaloceanspaces.com/public/Expertise/ABL-Shareholder-Activism-Report.pdf