Tech companies have increasingly come under siege by shareholder activists. Yet most tech executives are unprepared to face activists.
Concentrating on defense alone—acting by reacting—is not a winning strategy, according to a new report from The Boston Consulting Group (BCG). Instead, tech leaders should think as activists do: focus unwaveringly on maximizing shareholder value.
Slowing industry growth and shifting business dynamics have forced many mature tech companies to evolve their business models in order to grow. As the report, Shareholder Activism in Silicon Valley, notes, leaders are trying to capitalize on new trends to increase revenues.
In the process, however, the historical drivers of total shareholder return (TSR) have changed, prompting activists to strike.
But, according to the report, that’s not a bad thing. “Although activists’ moves have often been perceived as destructive, the reality is quite the opposite,” says Jody Foldesy, a BCG partner and a coauthor of the report. “Objectively speaking, activists have helped usher in a new era of disciplined capital allocation among tech companies.”
Watch for Activist “Flags”
Through intensive research, BCG has identified a set of financial indicators that together signal the likelihood that a tech company will be targeted. The most common activist “flags” are low (or no) dividend payouts (characteristic among 89% of the companies BCG studied), high capital spending (in place at 63% of the companies), and low return on capital (present at 57% of the companies)—characteristics that are traditionally found in slow-growth industrial companies.
Other flags include low levels of debt on the balance sheet and high SG&A expenses. The more of these flags that are present, the greater the likelihood of being targeted, according to the report.
But assessing a company’s vulnerability to activist overtures is just the first step.
A Lesson from Judo: Mimic Activists’ Moves
To fortify corporate performance—the most effective way to spurn activists—tech leaders need to look at corporate performance through activists’ eyes. “Mimic a judo fighter: anticipate your attacker’s moves and then circumvent his intent,” says Sebastian DiGrande, a senior partner at BCG and a coauthor of the report.
The report describes four activist traits that tech executives should emulate to promote value creation.
Be bold. Tech leaders must be willing to entertain bold moves to enhance value—such as divesting businesses, slashing costs further, or rethinking capital allocation.
Develop a well-honed investment thesis. Activists have one, and so should tech leaders. Leaders should consider refining the business strategy, optimizing portfolio composition, identifying new efficiencies, and using cash to boost shareholder returns.
Rally investors’ support. Tech leaders would do well to study the actions that activists take to win institutional investors’ support, such as keeping an open dialogue with them and showing a commitment to their interests.
Demonstrate that interventions create value. Contrary to popular belief, activist interventions actually benefit shareholder value, regardless of the outcome.
“Among two dozen recent interventions, we found that on average the target companies enjoyed 36% cumulative TSR during the activist’s involvement,” says DiGrande. "And that improvement was sustained for two or more years after the activist’s exit. This suggests that company leaders should recognize—and publicize—the actions they take and the value those actions generate."
Delivering sustained superior TSR is a major challenge, particularly as a company matures. Tech leaders must prepare for the activist challenge by applying the very kinds of objectives and tactics activists use to their own advantage. Monitoring activist flags is essential. Mimicking activists’ defining traits is powerful.
“These strategies aren’t merely a sound defense against the activist threat,” says Foldesy. “Fundamentally, they’re about doing the right things to fuel and sustain value creation.”