When an activist decides that a new CEO is the most effective lever of value creation, should they be responsible for determining who fills the role?
At both CSX and Arconic, two noisy current campaigns, the dissidents have chosen their preferred candidates. Perhaps in the case of CSX, if not as surely for Arconic, it would be fair to say that the thesis hangs entirely on the choice of CEO. Hunter Harrison, whom Paul Hilal’s Mantle Ridge has tapped for a repeat of his Canadian Pacific heroics, is after all, the embodiment of precision railroading. Elliott Management says merely that Larry Lawson, its choice to lead Arconic, “should be a leading candidate” for the job.
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While many activist campaigns involve a change in leadership, and still more result in one, there are somewhat novel elements in these two current situations.
First, the pre-selection and anointment of a CEO candidate. Such was also the case at Canadian Pacific, where Pershing Square Capital Management and Hunter Harrison teamed up well before the proxy contest. Yet it is surprisingly rare; at JC Penney, another case everyone remembers, four months passed between Pershing Square joining the board and Ron Johnson’s appointment; at Darden Restaurants, the reconstituted board chose a company insider. Two recent examples, at RiceBran Technologies and Monster Worldwide, are not entirely analogous.
Next is the cost. I have argued in the past that CSX’s board is abdicating its duty to make decisions on behalf of shareholders by calling a vote on Mantle Ridge’s demands. Looked at another way, however, it seems understandable that the company would object to the activist’s approach.
Mantle Ridge has indemnified Harrison for his lost severance pay from Canadian Pacific (some $84 million) and an unspecified amount for potential taxes, as well as agreeing to pay him $2 million a year as a consulting fee. It wants to pass these costs onto CSX, arguing that they are dwarfed by the scale of the opportunity to create shareholder value. That may be true, but Mantle Ridge is also effectively deciding how much Harrison is worth (it is also playing a role negotiating Harrison’s compensation from CSX) and then presenting it to the board as a fait accompli with the threat of a proxy contest in reserve, cutting out the negotiations that a board would typically carry out.
Elliott’s agreement with Lawson, disclosed in its proxy form, is simpler in scope and smaller in scale. There is a monthly stipend of $100,000 payable up to July 31, plus a lump sum payment based on the outcome of the campaign (Elliott’s director candidates are entitled to up to $100,000 for participating in the contest). If Lawson is installed as CEO, Elliott pays him $1 million to acquire stock in Arconic. If not, it pays him $4 million free of conditions.
The disparities say a lot about the two businesses, and the respective candidates. CSX requires a leader steeped in railroads, which Harrison happens to be. Lawson, whose two previous roles were in aerospace products manufacturing, has the right background to lead Arconic, but hardly the same reputation for innovation as Harrison. Elliott’s campaign is about leadership first, strategy second. At CSX, the leadership is the strategy.
Activists will likely be able to draw on more and more high-quality CEO candidates, as long as they are associated with success stories and massive payouts, rather than contempt or suspicion. Yet Harrison’s extraction from his Canadian Pacific non-compete clause shows that this will be an expensive business for an activist that fails to get its candidate to be taken on by its target, and an awkward problem for boards that reserve the right to define compensation plans.
Article by Activist Insight