Beware the “omniscient” activist

Benj Gallander and Ben Stadelmann
Friday, November 14, 2014

Berkshire Hathaway’s annual general meeting in Omaha is famous for the broad swath of questions entertained by Warren Buffett and Charlie Munger. They aren’t shy about weighing in on controversial topics, Buffett usually with a carefully reasoned and worded argument, while Munger makes free use of his acid tongue.

One issue raised at the last meeting was investor activism. Berkshire has frequently been criticized for not using its large voting bloc to pressure company management to adopt more shareholder-friendly behaviour.

Buffett has consistently brushed aside such suggestions, expressing his belief in CEOs being allowed to focus on strategy and operations while he concentrates on allocating Berkshire’s capital. At the AGM, Munger was characteristically frank about the growth of activism, stating, “I don’t think it is good for America.”

We are no strangers to activist investing. A case in point was our experience with Yahoo.

We purchased the Internet portal at $11.11 in November 2008, a few months after the attempted takeover by Microsoft. That bid had been for $33 a share, but Yahoo founders Jerry Yang and David Filo held out for $37. No compromise was found, and Microsoft CEO Stephen Balmer stated that Yahoo would live to regret its defiance.

At the time, Yahoo owned 40 percent of a little-known Chinese Internet property, Alibaba, whose purchase for $1 billion Yang had masterminded in 2005.

With Yahoo continuing to lose advertising market share to Google and Facebook, activist Daniel Loeb bought a 5.2 percent stake in 2011. Loeb derided Yang’s ineptitude in bungling the Microsoft deal, and, after a proxy battle, Yang was forced out of the company he created.

Around this time, Alibaba was keen to repurchase some of the shares it had sold, and Loeb urged Yahoo to make a deal. Cowed by the fearsome hedge manager, Yahoo agreed to sell half of its stake at $13 a share, which worked out to $7.1 billion. Today, those shares would be worth $62.7 billion.

This has to go down in history as one of the most myopic transactions since a cash-strapped Napoleon sold 2.1 million km2 of prime real estate to the US for $15 million.

Loeb sold most of his shares in 2013 at $29.11 and exited the board. For Loeb’s fund, the venture was a home run, making $1.15 billion, for a 109 percent gain. From our point of view, that is pretty good, but we outdistanced his returns by selling about half of our holding at $34.84 and the remainder at $41.24. Had Loeb taken Warren and Charlie’s advice, our profits, and his, would have been a lot fatter.

Yahoo isn’t free from troublesome activists yet. Now it is hedge fund Starboard that is pushing hard for a merger with internet straggler AOL. Good grief.

We are not big fans of some of the moves Yahoo CEO Marissa Mayer has made, but when it comes to evaluating the potential of Internet properties, we’re inclined to go with Google’s employee #20 rather than some denizen of Wall Street who has to call IT every time his laptop acts funny.

It is true that some companies have cirrhotic management, and sometimes activist investors are necessary to shake them out of their lethargy. We have benefited when such people have orchestrated a sale to a more vigorous competitor.

In some cases, activists can bring fresh ideas and turnaround expertise to the table. However, when hedge fund managers arrogantly believe that their ability to mobilize capital trumps the strategy of anyone they do not happen to agree with, then they are likely to do far more harm than good.