Shareholder engagement is an imperative for every public company. And with the recent adoption of universal proxy cards, 2023 promises to inject fresh uncertainty into how companies think about and approach that engagement. On the cusp of proxy season, now is an ideal time to ensure that engagement efforts are structured to provide the greatest return on investment.
Looking Back at 2022
Driven by inflation, rising interest rates, geopolitical conflicts, and other factors, the market volatility of 2022 opened new doors for shareholder activists. Depressed valuations made many companies suddenly affordable, and activists responded. Indeed, in 2022, 538 companies were publicly subject to activist campaigns in North America, as compared to 481 in 2021.1 The market volatility also impacted the focus of many activists. Campaigns targeting capital allocation decreased as compared to 2021, while those focused on corporate operations and strategy, including environmental, social, and governance-related campaigns, increased significantly. M&A-related campaigns were also impacted, with an increase in campaigns seeking to have the company sold and a decrease in campaigns opposing announced deals. Overall, investors were more willing to vote against management in 2022, with a significant increase in the number of director and say-on-pay votes receiving less than 70 percent support. As activists often use shareholder dissatisfaction with directors and compensation to campaign for management changes, this could portend significant activism risk at these companies in 2023.
Universal Proxy Cards
The 2023 proxy season will be the first to feature mandatory universal proxy cards. As we’ve previously explained, under this system, companies (other than registered investment companies and business development companies) and activists are required to use a “universal” proxy card in contested director elections. The universal proxy card would include the names of all candidates standing for election to the company’s board of directors irrespective of whether they were nominated by the company or the activist. By allowing shareholders an easy way to “mix and match” from candidates proposed by the company and the activist, universal proxy cards are expected to allow shareholders to split their votes more easily among competing director slates.
Although it is impossible to predict the full impact of the transition to universal proxy cards, we believe that it will lead to an increased focus on the backgrounds and qualifications of each director nominee, whether put forward by the company or the activist. Based on the first proxy contests since the adoption of universal proxy cards, we believe that long-tenured directors are likely to be at the greatest risk of a negative recommendation from proxy advisory firms, and thus at the greatest risk of not being reelected in a proxy contest. Other factors beyond long tenure that could imperil a director are service on multiple boards (in excess of the voting guidelines of proxy advisory firms and major institutional investors), a lack of relevant expertise or skills, or a redundancy of background and expertise when compared with other directors.
Looking Ahead to 2023
Shareholder engagement runs the gamut from preparing for successful quarterly earnings calls to engaging with shareholders directly. Although there is no “one-size-fits-all” approach, we believe that effective shareholder engagement involves a combination of some or all of the following factors:
- Clearly and continuously articulating the company’s strategy for value creation. Shareholders are eager to understand how a company proposes to build value. That message must be articulated clearly and reinforced regularly. For example, the rationale for the company’s strategy, asset portfolio, and business mix should be thoughtfully communicated by management and well-understood by shareholders.
- Considering opportunities to boost shareholder value. Companies should examine their business the way a short-term financial investor would. For example, assess whether opportunities are available to boost shareholder value, and if so, whether pursuing those opportunities makes sense for the company. Be mindful, however, of how pursuing a particular opportunity to enhance short-term value may affect the company’s broader strategy for long-term value creation. It is important to always project a focused vision.
- Understanding the shareholder base. Every company must understand its shareholder base and the unique considerations of its key investors. And keep in mind that the shareholder base at most companies changes over time, as may the priorities, objectives, and desires of long-term shareholders. What resonated with shareholders two years ago may be very different from what resonates with current shareholders.
- Proactively enhancing governance practices. Governance is almost never the central feature of an activism campaign, but it is frequently used as a wedge issue by activists to paint a board of directors as entrenched and out of touch. As such, companies should regularly evaluate their governance practices and look for proactive measures—such as the adoption of majority voting in director elections, the elimination of supermajority vote provisions, and even, in appropriate circumstances, voluntary declassification of the board—that can be taken to show the board’s deliberate approach to governance. Shareholder engagement is a long game, and years of thoughtful evolution can reassure shareholders that the board prioritizes good governance and has sufficient internal will to make changes when they are warranted.
- Focusing on board composition and refreshment. A robust approach to board refreshment has become table stakes for the most sophisticated companies when it comes to engagement. Institutional shareholders appreciate seeing changes in board composition and view a regular cadence of new directors joining a board as evidence of a healthy boardroom dynamic. As noted above, the universal proxy rules have cast a brighter light on the skills and qualifications of each director individually. As such, boards should be conscious of, and seek to proactively address, weaknesses that an activist might seek to exploit. This is particularly true at companies that have seen an erosion in investor support for directors and say-on-pay proposals.
- Monitoring what’s being said and done. Monitor the ratings and feedback of proxy advisory groups such as ISS and Glass Lewis and seek to correct any inaccuracies. Track and understand investor conference call participants, one-on-one requests, and transcript downloads. Watch peer group, sell-side analysts, active asset managers, and internet commentary and media reports for opinions or facts that will focus attention on the company. Be mindful of changes that peer companies are making to their businesses, as well as any key industry trends.
- Speaking with one voice. Companies should always present a unified front to the external world. Open and rigorous debate is an important part of decision making, but that discussion should remain in the boardroom. Directors should be careful not to speak on behalf of the company or the board—even on seemingly immaterial matters—unless explicitly authorized to do so.
- Listening actively and being open to change. Companies that listen typically understand where they are falling short in the eyes of their shareholders. Directors should consider implementing a process to regularly receive unvarnished shareholder feedback in board meetings, along with an understanding of how management intends to address shareholder concerns. In this regard, shareholders—especially activist shareholders—want to know that 1) their views are being taken seriously and 2) the board is open to change, not asleep at the wheel and not willfully blind to potential alternatives. Adopting a close-minded and defensive approach can facilitate a narrative that directors are entrenched.
For more information on structuring shareholder engagement efforts, or responding to requests from shareholders, please contact any member of the firm’s shareholder activism or mergers and acquisitions practices.
