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Pozen Calls for Institutional Investors to Combat Activists

Bob Pozen is calling for institutional investors to step up to counter the influence of activist investors. Pozen, former chair of MFS Investment Management, argues that "[a]cross the world, a clamor is rising against corporate short-termism—the undue attention to quarterly earnings at the expense of long-term sustainable growth." Pozen suggests that the cause of this short-termism may be activist hedge funds which typically buy a small portion of a company's stock (1 or 2 percent) and push for unsustainable measures that focus on short-term growth.

Pozen’s statements come on the heels of a recent article by Wachtell Lipton partner Martin Lipton praising recent developments that promote companies’ pursuit of long-term strategies.  In the article, Lipton highlights recent changes by the U.K. government to remove requirements for quarterly reporting in order to combat short-termism. As a result of the change, Legal & General Asset Management, a large European asset manager, contacted the London Stock Exchange's 350 largest companies to urge them to take advantage of the change. They argue that such a short reporting period shifts focus away from long term growth and further that in many instances, "providing the market with quarterly updates adds little value for companies that are operating in long-term business cycles." Lipton also urged the SEC to consider how it can facilitate the ability of companies to pursue long-term strategies. 

Pozen points out that institutional investors have been hesitant to combat activist investors’ focus on short-term profits, despite public statements by large players such as Vanguard regarding long-term perspectives. Pozen offers several explanations for this phenomenon. First, he notes that almost 30% of stock assets under management are held in vehicles that pursue an index strategy. As a result, the managers of these funds may not have the analyst resources available to properly evaluate an activist's agenda. Pozen also notes that the cost-benefit analysis is much different for an institutional investor than it is for an activist hedge fund. Whereas a "large" holding may only comprise 1% of a fund's assets, activists tend to invest in a more concentrated manner, adding weight to the benefit side of the equation. Further, the compensation structure of hedge fund managers adds to the benefit equation as they stand to make 20 percent of any short term gain. Those institutional investors that do act face a free rider problem as they would incur all of the associated costs in fighting the activists yet only get a portion of the benefit. These challenges have led many funds to effectively outsource proxy voting decisions to proxy advisory firms which may not have the same long-term perspective as the institutional investors, according to Pozen.

As a first step in reducing the influence of activist investors, Pozen argues that regulators and industry groups should encourage institutional investors to step forward and "play a decisive role" as a company's largest shareholders where they hold that role. He also suggests that regulators may need to adapt their approach and points to a 2014 bulletin on proxy voting. He argues that the document may have led to less participation by cost-conscious managers because it expressly permitted policies that held that proxies will be voted with the company's directors, activists, or even not voted at all. Pozen also notes a process that boosts the influence of activist investors which he calls "empty voting," or borrowing stock for the ability to vote the shares. While the SEC indicated in 2010 that it would reevaluate such practices in proxy voting, that process has stalled.

Pozen suggests that institutional investors can combat short-termism simply by becoming more involved with the companies in their portfolios. He dismisses concerns about engagement and potential violations of Regulation Fair Disclosure and notes that an exemption exists where information is disclosed to a select group that has signed a non-disclosure agreement and promises not to trade on the information until it is public. He also suggests that institutional investors should engage in the director nomination process specifically choosing candidates who possess a long-term perspective. Lastly, institutional investors should carefully weigh a company's compensation plan and reject it if it places too much focus on short-term growth at the expense of long-term growth.