Hedge Fund Activists

In my last blog entry about shareholder activism, I mentioned that activists, particularly, hedge fund investors have short term horizons and aggressively push the companies to focus on temporary profits. But where do hedge funds get money to invest in these organizations? What is their motive? Hedge fund raises its money from wealthy individuals, corporations, endowments etc., Hedge fund has a manager who makes decisions for the fund. The managers are usually investments advisers and the performance of hedge fund depends on them. The mangers convince investors that they can manage their funds in a profitable manner. They attempt to do so in order to attract many other huge investors to form partnerships with them.

Two and twenty is a commonly used fee practice in hedge fund business. This means an annual maintenance fee of 2% is charged by hedge funds to maintain assets irrespective of whether the investment makes a profit or not. If any profits are made, 20% of those profits are taken as incentive by hedge funds. This arrangement has created many wealthy hedge fund mangers overtime. Also, since the hedge funds have this pressure to perform and make the investors happy by showing them profits, the hedge activists have a bad reputation that they don’t act in the best interests of the organization. The two and twenty figures have changed figures have changed to 1.5% and 17% on average because of large competition of hedge fund managers that have sprouted recently.

The hedge fund activists use two means to reach their goals: proxy fights and proxy contests. Proxy contest is a process of soliciting votes in opposition to management in the annual board meetings or special meetings created on demand. Proxy fight is an action in which a group of shareholders join to oppose and vote out the management. Although the goal of both proxy contests and fights is common, proxy fights are time and money consuming with no guarantee on outcome. While some believe that these hedge fund activists have no meaningful cause other than creating momentum for short-term increase in stock prices or selling of the firm, others argue that the hedge fund activists improve both short-term and long-term performance of their targets. In an attempt to manage the investor wealth, the hedge funds have successfully altered to push firms to sell off incompetent assets, forced them to reduce investments or even alter the governance thereby making them effective. That being said one has to judge if the actions of are hedge fund activists are motivated by self-interest or in interest of the organization.