Activist‐impelled divestitures and shareholder value

Abstract

Research Summary: This study analyzes how the divestitures that are impelled by activist investors in their campaigns against public corporations affect shareholder value. Using hand-collected data on the activist campaigns that were launched against and the divestitures that were undertaken by Fortune 500 companies between 2007 and 2015, we find that activist-impelled divestitures are more positively associated with immediate and longer-term measures of shareholder value than comparable managerled divestitures. These performance differences persist for nearly two years after the completion of these deals. Our results empirically test the idea that firms with agency problems unlock shareholder value when they divest, and support the notion that activist investors fulfill an important external governance function. Our work also opens new research opportunities and offers practical implications as well. Managerial Summary: This study investigates how divestitures that are undertaken at the behest of activist investors affect shareholder value. We find that divestitures that were undertaken under pressure from activist investors are associated with more positive shareholder returns than comparable divestitures that were undertaken voluntarily by managers. These performance differences persist for nearly two years after the completion of these deals, alleviating concerns about the purported shorttermism of activist investors. Our findings suggest that activist investors may fulfill an important governance † Both authors contributed equally and are listed alphabetically. We sincerely thank Connie Helfat and two anonymous reviewers for their helpful comments and suggestions throughout the review process. We are very grateful to Raffi Amit, Matthew Bidwell,

Disentangling the effects of hedge fund activism on firm financial and social performance

“…Defining activist ownership as an activist hedge fund taking an equity stake in a company with the intention to influence the control or the management of the company, we focus on the effects caused by ownership, rather than the range of goals, tactics, or success rates associated with hedge fund activism. Our approach aligns with prior studies of activist ownership (Brav et al, ; Chen & Feldman, ; Gantchev, ; Klein & Zur, ) and with Coffee and Palia's () testament that the threat created by an activist hedge fund solely owning shares is enough to provoke widespread change in a targeted firm.…”

“…We define activist ownership as an activist hedge fund taking an equity stake in a company with the intention to influence the control or the management of the company (Brav, Jiang, & Kim, ; Chen & Feldman, ; Gantchev, ; Klein & Zur, ). A shortcoming in prior research has been to overlook the concurrent effects of ownership by activist hedge funds on target companies': (a) long‐term financial performance (as reflected by market performance, accounting performance, and cash flow performance); (b) range of strategic investments; and (c) corporate social performance (CSP).…”

“…Studies in one strand of hedge fund activism research reveal a mostly positive effect of activist ownership on short‐term financial performance indicators, suggesting that demands from hedge funds dramatically alter the targeted firm's governance, management structure, and operations to immediately improve bottom line performance (Brav et al, ; Chen & Feldman, ). Although scholars have focused on stock prices and accounting measures, they have neglected cash flow as an important barometer of financial performance .…”

“…Extensive findings reveal financial underperformance to be the primary motivator for activist hedge funds acquiring ownership (see reviews: Denes, Karpoff, & McWilliams, ; Goranova & Ryan, ). To improve financial performance, activist hedge funds may demand that firms implement substantial cost‐cutting measures (Gillan & Starks, ; Westphal & Bednar, ), scale back investment (Bebchuk, Brav, & Jiang, ), restructure assets and redistribute cash to shareholders (Chen & Feldman, ), or replace board members (Gantchev, ). Activist hedge funds generally seek to improve the targeted firm's stock price so they can sell their shares at a profit.…”

“…Given their rise in popularity, demand for rapid results, and effectiveness in driving corporate change, hedge fund activism has emerged as the most controversial form of shareholder activism (Brav et al, ; Klein & Zur, ; Schneider & Ryan, ). Questions abound as to whether hedge funds create, capture, or destroy corporate value (e.g., Chen & Feldman, ). Skeptics of hedge fund activism caution that these activists' short investment horizons and high discount rates concentrate actions on extorting value from longer‐term shareholders and other stakeholders.…”