Activist Hedge Funds And Activism Mergers

Nicole M. Boyson

Northeastern University – D’Amore-McKim School of Business

Nickolay Gantchev

University of North Carolina Kenan-Flagler Business School

Anil Shivdasani

University of North Carolina Kenan-Flagler Business School

October 21, 2015

Abstract:

Activist hedge funds play a central role in the market for corporate control. An activist campaign makes a targeted firm substantially more likely to receive an acquisition proposal, both because it attracts third-party bidders and because activist hedge funds often bid for the firm themselves. Activists foster acquisition activity at targeted firms through the intensity of their engagement with management, their prior experience in activism mergers, and the targets’ policy improvements in response to activist intervention. Activism targets with unsuccessful takeover attempts experience substantial improvements in real policies and significant share price appreciation, suggesting a value-enhancing role of activist hedge funds in mergers. Stock returns to shareholders of both targets and third-party bidders are higher when an activist is involved in the target firm. In contrast, activist bidders appear to create limited value. Our findings illustrate specific mechanisms through which hedge fund activism facilitates change of control transactions.

Activist Hedge Funds And Activism Mergers – Introduction

In their survey of shareholder activism, Gillan and Starks (2007) define activists as “investors, who dissatisfied with some aspect of a company’s management or operations, try to bring about change within the company without a change in control” [emphasis added] (p. 55). The recent literature has established that hedge fund activism helps improve the performance and governance of targeted firms (see Brav, Jiang, Partnoy, and Thomas, 2008; Becht, Franks, Mayer, and Rossi, 2008; Brav, Jiang, and Kim, 2015). Yet there is limited evidence on the precise mechanism through which hedge fund activists help enhance shareholder value.

In this paper, we explore the role of hedge fund activism in corporate control transactions – which we call “merger activism” – with a focus on the ability of hedge funds to influence the likelihood that a bidder will target a firm involved in an activist campaign. Merger activism has become an increasingly common strategy employed by activists in recent years. One-fifth of all firms targeted by hedge fund activists over 2000-2012 receive a takeover bid within two years, and since 2007 this proportion has risen by 24%. Thus, in the case of hedge fund activism, rather than being two distinct means of shareholder intervention (as sometimes discussed in the theoretical literature, e.g. Maug, 1998; and Burkart and Lee, 2015), monitoring by activist investors and takeovers are closely interrelated. We study this interrelationship in this paper.

We are not the first to examine the link between hedge fund activism and takeovers. Using data from 1993 to 2006, Greenwood and Schor (2009) find that firms targeted by hedge fund activists are about three times as likely to be acquired over the following eighteen months. Among all firms targeted by hedge funds, only those that are eventually acquired exhibit long-term share price outperformance, suggesting that activism adds value only when targeted firms are ultimately acquired. Greenwood and Schor (2009) conclude that hedge fund activism puts firms “in play” to be acquired but that “the scope for hedge fund activism to have pervasive effects on corporate governance is limited” (p. 374).

Although Greenwood and Schor (2009) document an important link between activism and takeovers, they are silent on the precise channels through which this link arises. For example, it is possible that hedge fund activists are skilled stock pickers that can identify attractive takeover targets or time their activist campaigns in advance of merger waves. Alternatively, it may be that an activist campaign highlights the potential for value improvement by a third-party acquirer, thereby facilitating a future acquisition. A third potential channel is that an activist campaign increases the target management’s willingness to sell the firm to a friendly or “white knight” acquirer to preserve some of the private benefits enjoyed by managers.

Our paper aims to fill this gap by examining the specific mechanisms through which hedge fund activism promotes merger activity. We use a comprehensive hand-collected sample of 1,899 activism campaigns over 2000-2012 and a merger sample of 3,357 transactions over 2000-2014. As in Greenwood and Schor (2009), firms targeted by hedge fund activists face a high likelihood of becoming a takeover target. In our sample, over 34% of activism targets receive a merger proposal within the next 24 months, relative to other firms that receive merger proposals only 5% of the time. However, in almost 30% of the activism mergers, the activist enters after the merger announcement but before its completion. To isolate campaigns where the activist has the potential to influence the probability of a takeover bid, we exclude such cases of activist merger arbitrage1 and focus on the remaining instances where a merger bid is announced within 2 years after a hedge fund initiates an activist campaign.

Activist Hedge Funds And Activism Mergers

Activist Hedge Funds And Activism Mergers

See full PDF below.