Activist Investors versus Industry Self Governance [Insight]

Lack of market regulation and oversight means that activist investing is now required from us all.  

More activism from shareholders is required in today’s business climate that is Pro industry self-regulation (see 2008 Financial Crisis), lacks powerful regulatory institutions (see SEC Bernie Madoff, ENRON) and governments that are powerfully lobbied by the wealthy in the interests of the wealthy.  This article shares a recent history of failure and corruption and how activist investors can play a positive role.

What is an Activist Investor?

Activist investors are those people or companies who purchase a 5% stake in a company so they are able to voice their concerns at or begin to influence the direction, decision making or running of a company.

They tend to target companies that are being run badly or are not operating in the best interests of the shareholders in mind.  The growth of activity of activist investors has increased hugely over the last 30 years and more so in the last 7 years since the financial crisis.

Why has Activist Investing grown so quickly?

In the years leading up to the financial crisis in 2008 through the George W. Bush era, banking regulations and stock market regulations have been purposefully loosened through big money lobbying. The idea of self-regulation has been pushed to the point where there is little oversight anymore.

The Securities and Exchange Commission (SEC) has seen less investment and is largely, but not completely, powerless to stop large financial crimes.  Take ENRON as an example, according to the BBC “Enron lied about its profits and stands accused of a range of shady dealings, including concealing debts so they didn’t show up in the company’s accounts”.  

This was never spotted until the bitter end and investors lost a lot of money.  If you pay an army of high priced lawyers you can get away with a lot of financial crime.  This is made clear in the highly rated movie “ENRON: The Smartest Guys in the Room”.  

Lehman Brothers and even the Bernie Madoff Ponzi Scheme scandal are other great examples of lack of governance and even lazy money.  I read the book “No One Would Listen by Harry Markopolis “ and found it to be a compelling synopsis of the lack of power of the SEC and a great example of what the Economist calls “Lazy Money”.  Lazy money refers to investors and funds who invest in companies without doing due diligence on the how well the company is run.  

There is also an excellent movie based on the book called “Chasing Madoff” which I recommend.

How can Activist Investors benefit the Individual Investor?

Company boards and management over time can become lazy, entrenched and lose their innovative edge.  They may be running a good business badly or running a good business and hoarding the generated wealth without distributing the gains to shareholders (See Carl Icahn’s Letter to Apple CEO Tim Cook).  Good Activist Investors seek to drive improvement in the way the companies are run, trim off the fat and get the company lean and efficient or simply ensure that the money sloshing around in the company finances are distributed back to investors if not used for good growth opportunities.

Where governmental oversight fails, activist investors have a role to play to shine a light on the dark practices of seedy boards.

That is not to say they are angels, the big activists are in it to make a profit and profit they do to the tune of 10% to 25% plus returns annually from their exploits.

Try and Try Again – When Activist Investors get it wrong?

One of the best examples of it not quite working out for activist investor’s is the Bill Ackman versus Herbalife drama.  Bill Ackman in December 2012 took large short positions in Herbalife and then did a very public presentation on how Herbalife was just one huge pyramid scheme.

Investors were not convinced and the stock promptly rose and moved to new all-time high in 2013.  But Ackman is not one to give up and he renewed his attack in July 2014.  The stock is now down 63%.

If Herbalife is a truly unsustainable business model, then Ackman certainly did the right thing highlighting this to the lazy money.  Ultimately pyramid schemes will fail.

Ackman vs. Herbalife - The impact activist investors can make
Click to Enlarge: Ackman vs. Herbalife – The impact activist investors can make

Caveat Emptor – Buyer Beware

So, there are benefits to having activist investors on the scene, but that is no excuse for governments or regulatory authorities to avoid the ultimate accountability that they have to ensure markets are safe and fair for us to invest our money.

We as investors are ultimately responsible for where and how we invest our money.

Even though individual investors only make up a small part of the volume of invested stocks and cannot easily sway market movement, we ultimately need to research what we invest in.  It is your money and if you lose it it is your fault.

I would appreciate your thoughts on this topic – please leave a comment below, I will try to reply to all.


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