Can shareholder activism curb boardroom excess?

It is sometimes easy to forget that the management and directors of a company are there to serve the shareholders.

Investors, even those with a considerable stake, can feel powerless as the board makes decisions that they fear will be detrimental to their interests.

Shareholders are all too used to having little choice but to rubber-stamp decisions made by the board that are often not in the interests of the company - from extortionate pay packages to high-geared takeovers.

Investors' powers may be limited, but many have shown that shareholder activism can be used effectively to change a company's direction, and with the spring annual meeting season upon us, now is as good a time as any to make your mark.

We've all heard of people who buy one share in a company to voice their objections to what they view as unethical practices by companies, or those who heckle the chief executive at the annual meeting. Shareholder activism has another side though, a side which serious investors would do well not to ignore and one that could provide an important safeguard against management irresponsibility.

There has been a significant increase in shareholder activism since the 2008 financial crisis.

While it is not unheard of for challenges to be made to takeovers, two such moves - in FTSE 100 companies Prudential and G4S - were successful in recent times, showing a definite sea change.

Paul Mumford of Cavendish Asset Management was involved in the scuppering of Prudential's plans to acquire Asian insurance giant AIA in 2010. He told Interactive Investor that leverage other than voting rights was needed: "The media was key. We didn't have a big enough stake in the company to vote down the move, but the deal looked so poor we had exert a much bigger influence by talking to the press. That influenced other shareholders and meant the deal didn't go ahead."

How much individual investors can effect change in the companies they own is debatable. When security group G4S was forced to pull out of a £5.2 billion takeover of Danish cleaning company ISS, it took investment company Harris Associates, with its 5% holding, along with other major investors including Schroders and Artemis to line up behind those opposing the acquisition before the company thought again.

Shareholder strength

However Gavin Oldham, chief executive of The Share Centre, believes individual shareholders don't realise the strength of their voice.

"The last thing that the board wants is press attention around a shareholder revolt. With social media and online forums available now it's much easier to gauge fellow shareholder opinion and build support for a shareholder resolution," he told Interactive Investor.

That is still something that requires a fair amount of effort. The support of 100 shareholders is needed, each holding more than £100 in nominal share value - rather than market value, which means the amount of capital needed can vary wildly between companies.

Individual investors can of course speak at annual meetings and cast their votes. However, with most institutional investors voting via proxy this can be an uphill struggle.

There are success stories though. The most high-profile case is probably Shell's involvement in human rights abuses in Nigeria. Small shareholders put pressure on the oil company to improve its practices and won major concessions. This was achieved largely through use of the media to highlight the issue.

Oldham said companies should be doing much more to communicate with the individual shareholder, allowing them access to information normally reserved for institutions.

"It has improved over the last three years, particularly concerning pay. But when there are meetings between institutional investors and management they always say that nothing sensitive is discussed, we all know that's why they hold the meetings though. I want to see all those meetings broadcast online so that all shareholders can be party to them," he said.

Statistics seem to back up the idea that shareholders have been more willing to raise their voices in recent years. In 2011 there were 16 occasions when more than 20% of shareholders voted against remuneration reports of FTSE 100 companies, compared with just seven instances in 2010, said shareholder rights consultancy PIRC.

And most of the moves taken by shareholders have been deemed to be prudent by analysts. Panmure Gordon lauded investors efforts to stop the ISS takeover - and with criticism of toothless regulators continuing, shareholder activism is seen by some as increasingly important as a form of self-regulation that can curb the worst excesses of the boardroom.

Tom Powdrill of PIRC believes shareholders can play an important role in stabilising the market: "In the run-up to the [2008] crisis, shareholders failed to restrain companies that took on too much risk and carried out high-leveraged manoeuvres, and that damaged shareholders' interests in the long term. If there is the same behaviour again and we see banks taking the same path to push up profits in the short term then hopefully we'll see shareholders stepping in," he said.

Destructive activism

However, to say that activism has increased overall might be a little misleading.

Prior to the 2008 crash there were plenty of activists, but they were largely looking to exert influence over companies to expand more rapidly, to take on more debt and shake themselves out of stagnation. What we see more of today is a more responsible activism, an activism of reserve and long-termism.

Mumford is wary of the more aggressive approach: "Sometimes activism goes against the interests of shareholders.

"Take the case of Eckoh, the voice-recognition company. A shareholder that held around 10% of the shares wanted to secure a place on the board and wanted the company to buy back all of his shares. That clearly wasn't in the interest of the company and so we took a stance against it and voted with the company."

When US hedge fund Elliot Advisors tried to shake up operations at National Express it was roundly condemned by governance advisory groups as a case of destructive activism.

The fund was accused of naked self-interest and short-termism in pushing for a more aggressive, leveraged approach and demanding three seats on the board. Other shareholders rallied around the ailing transport group and the moves were repelled.

One means of dealing with just this type of short-term operation is discussed in Professor John Kay's report, commissioned by Vince Cable to look into rules governing companies. It tables the idea of long-term holders of shares being given greater voting rights, and those who have recently acquired stakes having theirs curtailed.

However, how this would work in practice and whether there is any interest in government in unclear.

For the time being it seems that both institutional and individual investors are ramping up the pressure on companies to be more responsible, rather than the other way around. That can only be good news for those looking for solid long-term returns.

For more on how to get involved, read:A guide to shareholder activism.