Shareholder Engagement

Engagement vs. Activism

Shareholder engagement involves portfolio managern use a proxy vote to strengthen their influence collectively, allowing absentee shareholders to delegate their votes. The services of external proxy advisory firms' or other shareholders' active participation in a company's affairs. This includes voting on proxies, joining calls with company management, and researching issues to make informed decisions that benefit all stakeholders. It's akin to civic duty, where informed citizens engage in political matters and make prudent choices.

Shareholder activism goes beyond engagement, involving more intensive participation. Shareholder activists may:

• Launch media campaigns to influence public opinion or votes.
• Seek election to the company’s board of governors.
• Initiate proxy battles to convince a majority of shareholders to support their perspectives.

Engagement Issues and Benefits

Engaged shareholders address various issues, such as:

• Corporate strategy: Includes a company’s strategic objectives and goals, resources, growth prospects, and constraints.. It also includes a company’s research, culture, product development, CSR, and competitive environment. A company’s plan for balancing short-term obligations with long-term objectives may interest shareholders. Shareholders also want to know how a company will prioritize stakeholder interests.
• Capital allocation (capital budgeting): A company’s strategy for mergers and acquisitions and its selection process for new projects. Shareholders may be interested in financial leverage, dividend policies, equity financing, and capital expenditures.
• Corporate governance, including board of directors selection and related policies. Includes a company’s internal controls and the operation of its audit and risk committees. It also includes how a company deals with regulatory and political risks.
• Compensation structures for company executives. Significant and long-term shareholders usually influence future compensation structures.
• Composition of the board of directors. Includes the board’s succession planning (for departing board members), experience, competence, diversity, and culture.

The desire to enhance investment returns primarily drives shareholder engagement. Ideally, this engagement should benefit all stakeholders, including the public, suppliers, customers, shareholders, and employees.

Benefits of Shareholder Engagements

• Benefits to Companies: Facilitates more robust corporate governance and better company performance, benefiting shareholders.
• Benefits to shareholders: Engaging in the company’s activities gives investors a better understanding of the company. Active managers can use shareholder engagement as a process to achieve benchmark outperformance. Beneficial to shareholders who have NOT only financial interests but also ESG concerns. Benefits “free riders,” i.e., investors NOT involved in shareholder engagements but gain the same benefit from an increase in the share price.
• Benefits to other stakeholders: Governments, employees, customers, and creditors are also impacted by shareholder engagement outcomes. Stakeholder engagement enables these stakeholders to have more or less influence on a company. E.g., a company’s decisions to reduce costs may affect employee compensation.

Engagement Costs and Limitations

Engagement can have downsides and limitations:

• Short-Term Focus: Excessive engagement might divert focus from long-term objectives to short-term gains.
• Legal Concerns: Engagement could inadvertently violate insider trading laws.
• Conflict of Interest: Engaged managers might face conflicts between their interests and those of company executives.

The Role of an Equity Manager in Shareholder Engagement

Active equity portfolio managers typically meet with company management or investor relations teams to discuss their investments. Some countries require stewardship and shareholder engagement policies. Often, these engagements follow the release of company results.

Large investment firms may employ ESG-focused analysts alongside traditional analysts to address non-financial issues. These analysts primarily deal with shareholder voting decisions and environmental and societal issues.

The development of an industry providing corporate governance services, such as governance ratings and proxy advice, results from institutional investors hiring external experts for corporate governance monitoring and proxy voting assistance.

1. Activist investing.

   Activist investors invest in a company and look to make significant changes to it to make a profit.

   Shareholder activists may:

   • Launch media campaigns about the company to sway public opinion or the vote.
   • Seek to be elected to the company’s board of governors.
   • Engage in proxy battles to win over the majority of shareholders to their point of view.
2. Voting.

   Shareholders must participate in general meetings and actively use their voting rights to influence corporate decisions.

Minority shareholders often use a proxy vote to strengthen their influence collectively, allowing absentee shareholders to delegate their votes. The services of external proxy advisory firms assist investors in identifying contentious issues.

Question

Which of the following statements is least likely true:

1. Shareholder activism creates potential conflicts of interest.
2. Shareholder engagement involves proxy battles.
3. Shareholder engagement potentially promotes focusing on short-term results at the expense of more important long-term results.

Solution

The correct answer is B:

Choice B is more characteristic of shareholder activism rather than shareholder engagement. Proxy battles entail a more intense effort to influence remaining shareholders to vote specifically, going beyond the regular voting of shares. While not necessarily negative, proxy battles represent a more involved approach. 

A and C are incorrect. Answer choices A and C are true.

Reading 23: Overview of Equity Portfolio Management

Los 23 (d) Describe the potential benefits of shareholder engagement and the role an equity manager might play in shareholder engagement