Why re/insurers should fear the rise of activist investors

There are some chief execs right now taking a pretty good look at their own affairs in terms of how they spend company funds. I have also heard of a number of companies asking their investor relations teams for a thorough analysis of peer-related performance.

“This has definitely triggered the fear factor in the industry, with some very senior people thinking ‘there but for the grace of God go I’.”

That is a quote from one London Market executive speaking in the aftermath of the remarkable and very public war of words between investor Voce Capital and the board of the Argo Group, in which Voce owns a 5.8 percent stake.

In early March, Voce published an open letter demanding that a number of new non-executive directors be added to the Argo board in order, it said, to initiate a change of culture at company and improve its performance.

The detailed letter, which totalled some 7,000 words, also launched an extraordinary personal attack on Argo chief executive Mark Watson. It accused him of misappropriating company funds to serve his own “lavish” lifestyle and claimed there was almost no distinction between his personal life and interests and the way company funds were spent.

“Whatever your view on the company or situation, you have to feel slightly sorry for Mark,” said the commentator.

“There are very few executives who can honestly look in the mirror and say they have never done anything that involved using company cash for their own interests. Maybe this case is extreme, but Mark will be far from unique, and you have to remember that the company has given pretty good returns over the years as well.”

A tabloid tale

The row between Voce and Argo represents an extraordinarily colourful tale more suited to UK tabloids than the business and insurance press where the affair has predominantly been reported.

But perhaps the industry should not be so surprised. In fact, the Argo debacle is just the latest incident to hit the insurance industry and is reflective of a growing trend in the wider corporate world.

Some are now claiming that re/insurers in all corners of the world should prepare for more of the same—and start considering their own tactics should they be targeted by so-called activist investors in the way Argo has been.

“It’s definitely rising up the agenda of most companies now; executives see it as one of their bigger corporate threats,” says one broker who advises re/insurers on wider aspects of corporate strategy. “And since the Argo affair, many also fear it becoming a very personal attack.”

The Argo case bears many similarities to the dilemma RenaissanceRe found itself in last September when TimesSquare Capital Management, an institutional asset management firm with a significant stake in the Bermuda reinsurer, published a letter calling for the company to implement an immediate review of strategic alternatives, including an exploration of a potential sale of the company.

Like Voce, TimesSquare had done its research and made a compelling case that RenRe’s valuation was falling way below that of many of its peers and, given the way the industry is evolving, claimed that it had a “diminished conviction that RenRe’s share price will appropriately reflect intrinsic value”.

TimesSquare, which had been an investor in RenRe since 2008, stressed the “structural transformation” of the reinsurer’s core property-cat since then, driven by the growing participation of alternative capital and the fact that the pricing response following large loss events has been significantly dampened as a result of the latter.

It also argued that RenRe was gaining no obvious value from being a standalone reinsurer and this has not resulted in an improved valuation over the years, despite the fact that acquisitions of peer companies have been generally consummated at escalating valuation multiples over the past two years.

In short, TimesSquare suggested that for RenRe to realise its intrinsic value it should conduct a thorough  review of strategic alternatives, including a possible sale of the company.

It went on to say that it believes a number of potential acquirers would covet RenRe’s “dominant and unique” position in third party capital management, and track record of “superior underwriting”, and that “an active competitive sale process for the company should be launched, which would likely yield a significant control premium over the current share price”.

In the case of RenRe, the letter did pre-empt change, although not in the form TimesSquare demanded. Just months after the letter was sent, which RenRe initially responded to in a very non-committal way, the reinsurer revealed two major strategic changes. It would buy Tokio Marine’s reinsurance platform TMR, which includes Tokio Millennium Re and Tokio Millennium Re (UK).

It also revealed that State Farm Mutual Automobile Insurance had agreed to invest $250 million in RenRe, resulting in it owning almost 5 percent of the reinsurer. It had already previously invested in RenRe-managed vehicles Top Layer Reinsurance and DaVinciRe.

To what extent the actions by TimesSquare prompted these strategic decisions at State Farm may never be known—certainly the RenRe board have made no reference to pressure from the shareholder beyond its initial response.

There have been other recent cases which also bear similarities to this, although on closer inspection there are also key differences. EMC Insurance Group (EMCI) in the US was targeted last year by Employers Mutual Casualty Company (EMCC), which made an unsolicited bid to acquire all of the outstanding shares of EMC at $30 a share, a 26 percent premium to its share price before the offer. It already owns 55 percent of EMCI.

In response to the offer, EMCI formed a special committee to consider the deal but, at the time of going to press, no resolution had been reached. “EMCC continues to believe that the proposed transaction is in the best interest of EMCI’s public shareholders,” the aggressor said in a statement in February 2018.

Then there is the extraordinary situation SCOR has endured recently. An unsolicited Ä8.2 billion bid by Covéa, an existing shareholder in SCOR, resulted in a stormy war of words between SCOR chief executive Denis Kessler, Covéa’s board and other investors, one of which accused SCOR’s snub of the offer as amounting to “gross management negligence”.

For what it is worth, Covéa, which already owns about 8.5 percent of SCOR, originally mooted the possibility of “a friendly transaction aimed at the creation of a large French insurance group with international presence in an evolving sector”.

Although the SCOR and EMCI cases are very different from the Argo and RenRe debacles in the sense that the bid is from an existing substantial investor, they have similar hallmarks in that smaller investors also put pressure on the companies to accept the deal.

In the case of SCOR, investor CIAM became a shareholder in SCOR only a month before it started putting very vocal pressure on SCOR to reconsider the offer from Covéa, arguing that its offer of Ä43 a share was well above its existing share price, which stood at Ä38 a share following the bid, and that SCOR’s unwillingness to engage with Covéa meant it cannot take a balanced view on whether it would be in the company’s best corporate interests.

Kessler’s response was priceless. “You write that the SCOR SE press release ‘claims’ that a share price of Ä43 per share reflects neither the intrinsic nor the strategic value of SCOR. We do not claim this. We are certain of it and we have seen it proved.

“We have examined this point very carefully with the help of the two banks advising us. Clearly, CIAM does not have a valuation model for SCOR. If it did, you would have communicated the intrinsic and strategic value of the SCOR group, as obtained from that model, in your letter,” he wrote.

He concluded: “Your threat to ‘hold me and the board of directors legally liable for a decision which would constitute gross management negligence’ demonstrates a world view far removed from my own. You make baseless accusations and issue threats.

“This attitude is directly opposed to the spirit of responsibility that has always motivated my actions.”

Just the start

These cases all made compelling and fascinating reading for industry executives and great copy for journalists. But according to specialists in the actions of so-called activist investors, the industry should also prepare for more to come—and become prepared for how to respond if something similar happens to them.

Financial institutions have traditionally been somewhat shielded from shareholder activists because of regulation. But this is clearly changing: activists are increasingly targeting financial institutions. It could be only a matter of time before we see more cases in the re/insurance sector.

First, it is worth considering, for those unfamiliar with the term, what an activist investor is.

Ed Gunn, director of M&A Operations at Deloitte and one of the authors of a report released in December last year called ‘Be your own activist: Developing an activist mindset’, says that while large institutional investors historically pursued purely financial strategies and kept a low profile in governance, this may no longer be the case.

Comparisons can be made with the corporate raiders of the 1980s. A new type of activist shareholder is on the rise—and some of them pack a serious punch. Some of the biggest institutional activists include BlackRock, with more than $6 trillion in assets under management, and the Vanguard Group, with more than $5 trillion.

Gunn admits that the term ‘activist investor’ can be applied in different ways—any and every shareholder may raise concerns with or make suggestions to the management of a company they hold a stake in.

The most widely agreed-upon definition is when an investor buys a stake in a company with the explicit intent of initiating a public campaign to instigate a significant change in the strategic direction of that company, designed to achieve an uplift in the share price.

They usually operate to a relatively short time period of two to three years. They are increasingly initiating public campaigns to leverage their influence on firms and pressure management for change.

Gunn says they vocalise their concerns by engaging in conversations with management and meeting the board directly. If consensus is not reached, they may make their demands public through open letters, white paper reports, shareholder proposals and proxy contests. Their agenda typically involves issues related to corporate governance, such as replacing management, dividend payouts, new director appointments and executive compensation. However, increasing numbers of activist campaigns seek influence within the strategy domain, which was traditionally the prerogative of executives.

Gunn stresses that much of this is nothing new, but such activity is becoming more commonplace.

“This is a business model that has been part of the fabric of the US capital markets for some time,” he says. “The difference now seems to be that they are becoming more active. It is a tactic also being employed by bigger investors in some instances and we are increasingly seeing it used in other parts of the world such as Europe and Asia.”

He explains that activist investors are typically small but very sophisticated operations that do a lot of due diligence seeking underperforming companies where their value and/or shareholder returns are a lot lower than those of their peers.

“They are looking at their strategy and performance and whether they have used capital in the best way, and looking at the wider trends in that sector to see what is possible,” Gunn explains. “What do the best performing companies in the sector look like and what changes can be made at the target to bring them closer to that?”

He notes the important distinction between so-called passive investors, which tend to sit back and take a long-term approach to the investment, and activist investors that are willing to be very provocative and which want to change things quickly.

Jason Caulfield, global head of value creation services at Deloitte and also an author of the report, explains that the sole aim of these investors is to trigger a significant change in the share price—as quickly as possible.

“That is a very different investment mindset compared with a more traditional pension fund seeking a long-term return that is also stable,” Caulfield says.

He says that the investor will usually engage with management in the first instance. Depending on the reception they receive and their wider strategy, some may go public faster than others. It very rarely backfires to go public, he says. “By bringing wider attention to the issue, things usually start moving faster.”

He adds: “Global activism is rising and activists are putting their money where their mouth is, more than doubling (110 percent increase) the value of newly deployed funds in the last 12 months compared to 2014.

“Activists are better prepared than ever before. They spend considerable time undertaking sophisticated analysis to finesse their demand thesis and have stepped up their strategy by courting passive shareholders well in advance in order to influence crucial votes in their favour.”

Gunn adds that the main intention of activist investors is usually to trigger some form of M&A or divestments. He also stresses that this can be a very successful strategy, something perhaps proved by the growth in money being put to work in this way. The report shows that almost $300 billion of holdings globally are being leveraged to achieve the demands of ‘activist’ investors; there has also been two-fold increase since 2014 in the number of large-cap (more than $10 billion market capitalisation) companies being targeted by activists.

“Nothing is off the table: no sector, no company, no strategic move. They are completely agnostic,” Gunn says.

The ripple effect

According to a 2018 report by Activist Insight, the number of companies around the globe receiving governance-related proposals from activists has steadily increased, with growth averaging about 11 percent for the last four years and campaigns targeting 805 companies worldwide in 2017.

The pool of funds deployed in these campaigns is expanding, reaching over $200 billion in 2016, up from just $47 billion in 2010. The movement is also expanding geographically: approximately 20 percent of total activist shareholder funds are now deployed outside the English-speaking world—and national campaigns have been launched in various European countries, including France, Germany, Switzerland, Italy and Spain.

According to the report by law firm Schulte Roth & Zabel (SRZ), Activist Insight and Okapi Partners, which is based on an August 2018 survey of activist funds, 72 percent of respondents expect to raise “some” or “a lot of” new capital in the next year.

The report also included some fascinating insights from investors at the coalface of this game. “Activism remains an attractive asset class and, particularly with the increase in co-invest vehicles, more capital will be deployed in campaigns,” wrote Ele Klein, SRZ partner and co-chair of the firm’s global activism group, in the report.

“As activists continue to gain a level of legitimacy in the market and design more effective ways to reach shareholders with their message, retail participation in the voting process should increase,” Bruce Goldfarb, CEO of Okapi Partners, wrote.

Large institutional funds, whose participation in shareholder activism was previously considered atypical, are now also getting into the game.

Whether large or small, underperforming or a market leader, it seems no firm can immunise itself against becoming a target of activist investors. Large hedge funds, such as those managed by Carl Icahn, Nelson Peltz, Dan Loeb and Bill Ackman, have increasingly generated media buzz by confronting the boards of global household names such as Apple, PepsiCo, Rolls-Royce, Nestlé and Danone.

For many, the recent appointment of Peltz, the founding partner and CEO of Trian Fund Management, to the board of P&G exemplified a turning point in what is said to be the biggest proxy fight in history.

Following the example of US-originated activist campaigns, European activist hedge funds have mushroomed. The Swedish firm Cevian Capital has also instigated public battles in flagship Nordic companies such as Erickson, Volvo and Danske Bank. Despite market volatility, the fund has become one of the best performers in Europe.

Previously dormant pension funds are also now looking zealously at the large profits that activist hedge funds have generated in the bull market.

Emotional intelligence

Given the rise in the phenomena of activist investors, some re/insurers may consider putting in place a strategy to avoid ending up being targeted and, if they are, around how to best deal with the problem.

This is not easy, says Gunn from Deloitte. The best advice, he says, is to simply ensure the company is not underperforming in relation to its peers in the first place.

“If your performance is not what it should be, then you might be concerned. The best advice really is to run the ruler over your performance on a regular basis and have the structure and people to challenge whether your value creation plan for the company is as good as it could be.

“It is important to think that way. Consider how an activist investor might suggest a dramatic change in strategic plans to create value and consider all options. Finally, ensure you are clearly articulating your plans to existing investors and the wider market so that it is in the public domain. That way, activist investors have far less traction to begin with.”

Once a company is targeted, however, Gunn recommends that the best approach initially is to listen and take the approach seriously. “There is no doubt that it can be very difficult to control, especially once it goes public. Ideally, you want to avoid being targeted in the first place and, if you are, to try and keep them on side,” he advises.

Caulfield adds: “Don’t try and dismiss having dialogue with any investors, no matter how marginal and, where you can, address any vulnerabilities. Engage with them but try not to allow them to set the agenda.”

In the cases of RenRe and Argo, both suggested in their responses to their investors going public that engagement had been tricky.

Argo, in its response, said: “Argo’s board of directors and management welcome input from all our shareholders and take into account their views. In that spirit, we were looking forward to continuing our dialogue with Voce, but are disappointed that Voce has decided not to engage us constructively.

“Instead, Voce has sent a letter to shareholders that contains a number of misleading and inaccurate statements and personally attacks the company’s CEO, ignoring Argo’s track record of strong value creation for all shareholders.” It went on to offer figures that, it said, show this.

A statement released by RenRe, responding to TimesSquare, said: “RenaissanceRe welcomes open and constructive communications with all shareholders and values their input. In this regard, members of our senior management team have held numerous meetings with TimesSquare over the past few years.”

It added: “We will maintain an open and active dialogue with all our shareholders as we continue to work to enhance shareholder value.”

Caulfield admits that in some instances, there may be little a company can do.

“This is another lens on the capital markets and it means companies will have to be even sharper than before on their performance. No sector is immune from this; it is very much a global phenomenon.

“They do need regulatory regimes that give the appropriate shareholder rights, but other than that no company that is underperforming is safe.”

He concludes: “Activism is here to stay. CEOs and boards need to think and act like activists to pre-empt and avoid costly showdowns. A rigorous self-examination may lead to a different view of a company’s current positioning and of what it needs to do in order to improve focus, performance and returns to shareholders.

“Ultimately, by showing capability of acting on behalf of shareholders to achieve superior performance, corporate management may be able to succeed in pre-empting activists.”