Hellen Siwanowicz, McMillan LLP
Some institutional investors (also called ‘activist shareholders’) use their power as shareholders to exert significant influence on an issuer’s decision making. According to Martin Lipton, a well-known critic of activist shareholders, generally speaking they are not beneficial to the overall economy because they pressure issuers to deliver short-term results at the expense of long-term value creation. In his view, activist shareholders typically focus on those corporate initiatives – such as a reduction of assets, R&D, future capital expenditures or employment – that an issuer can pursue to try to increase its share price in the near term. Interestingly, over the last several years, activist shareholders have frequently been successful in proxy battles or election contests when issuers have tried to resist the short-term steps that the activist shareholders were advocating.
The counter argument is that activist shareholders are often beneficial to the issuers that they target and hence to the overall economy because they impose a discipline on issuers to perform. According to Paul Roth, considered the ‘dean of the hedge fund bar’, activist shareholders tend to show up for a reason – and with a plan. In his view, issuers that are performing poorly are the ones that get targeted by activist shareholders.
One of the most powerful tools shareholders have for voicing their views on the decisions made by an issuer is through the director election process. Activist shareholders that are dissatisfied with the performance of one or more directors of an issuer may withhold their votes on the election of such directors at the annual shareholders meeting, or in certain circumstances, may propose one or more of their own nominees for election as a director of the issuer. Accordingly, given this significant tool, it is understandable that public dissatisfaction by one or more shareholders, especially ones that own or direct a significant number of shares of an issuer, can contribute to adversarial relations between the shareholders and the board of directors of an issuer.
As a result of majority voting policies that are now mandatory for all TSX listed issuers, if a director receives more ‘withheld’ votes than ‘for’ votes in respect of his or her election, the director must tender his or her resignation to the issuer. Although the board of directors of an issuer has the ability not to accept the resignation based on exceptional circumstances, it must state its reasons for doing so in a news release.
Under Canadian corporate statutes, shareholders elect the board of directors of a corporation to manage or supervise the management of the business and affairs of a corporation. The board of directors, in turn, hires management to run the corporation. There will always be situations where some shareholders disagree with the way in which an issuer is being managed. These shareholders may simply vote with their feet and sell their shares or they may use all means at their disposal to encourage the board of directors and management to make their requested changes to the issuer's business.
Activist shareholders that own a significant stake in an issuer may use public or private means, such as writing letters to the board of directors or management, submitting shareholder proposals, requesting a special shareholders meeting or engaging in a media battle, in order to advance their plans for an issuer.
The goal of effective shareholder engagement is to improve the relationship between an issuer and its shareholders and hopefully avoid, or at least de-escalate, adversarial situations as they arise. The question at hand is whether shareholder engagement can be used to improve the relationship between an issuer and its shareholders and thereby reduce the vulnerability of a board of directors to attack by the shareholders.
According to the Canadian Coalition for Good Governance (“CCGG”), institutional shareholders should have regular, constructive engagement with the boards of directors and relevant committees of public companies to explain their perspectives on governance, compensation and disclosure matters, and to discuss the companies’ practices in these areas. CCGG has recommended that each board adopt a written shareholder engagement policy on how it intends to engage with its shareholders and disclose the policy to its shareholders.
Implementing shareholder engagement should be carefully considered. Firstly, an issuer’s board of directors must strike a balance between being responsive to certain shareholders and acting in the best interests of the issuer, which is what the board is charged to do. Secondly, shareholder engagement must be carried out in a manner that is consistent with the issuer’s disclosure obligations under applicable securities laws. An issuer’s board and management may not selectively disclose to certain shareholders material information concerning the issuer that has not been disseminated publicly. Thirdly, effective shareholder engagement requires time and resources from management and the board of directors to ensure that all communication is coordinated and accurate. In order to be maximally effective, shareholder engagement should be part of an ongoing process as opposed to a response to a specific shareholder demand.
One of the main benefits of effective shareholder engagement is a better understanding of an issuer, the challenges facing the issuer and the expectations of its shareholders. Shareholder engagement involves two-way communication. Shareholder engagement is not only about how a board of directors can communicate its views about an issuer to its shareholders, but also how a board of directors can listen to shareholders who wish to communicate their views about an issuer. I would submit that it is this opportunity provided by shareholder engagement for a board of directors to listen to shareholders that is perhaps even more important and potentially beneficial to an issuer than the opportunity for a board of directors to explain publicly available information about the issuer to its shareholders.
Hellen Siwanowicz is a Partner at McMillan LLP.