Passive Power 3 - M&A
Anglo American presents a timely example
Mergers and acquisitions involve big questions about control and conflicting interests and yet seem to be a relatively under-developed area for stewardship. Investor policies on the topic are usually pretty short in comparison to other issues and our two big governance standards in the UK - the Stewardship Code and UK Corporate Governance are also largely silent.
In my view this is a deficiency in the UK system in general but it gets more complex when we again think about the relative positions of active and passive managers. Once again, the active manager’s approach is relatively straightforward as they will have chosen to have a position in, say. the target of a takeover bid. They will already have a view about how much the company is (or could be) worth and/or the prospects of a future merged business.
If they have a position in both target and acquirer this obviously adds complexity. For example, manager with a relatively larger position in the acquirer will presumably be concerned about overpaying.
But at some point the maths either works for them or not. Despite some genuflecting to wider stakeholder interests it ultimately comes down to price.
Passive managers start from a different place. They will typically hold both target and acquirer in takeovers, and they do so only because of the mandate from clients to gave exposure to a given market/index. Because they did not make a decision to hold the target or the acquirer and are not paid on the basis of the performance of individual stocks price doesn’t really matter.1 But given that they are a shareholder - often one of the biggest shareholders - they have to make a decision, so how do they do it?
This is from the latest iteration of BlackRock’s global investment stewardship principles:
In assessing mergers, asset sales, or other special transactions, BlackRock’s primary consideration is the long-term economic interests of our clients as shareholders. Boards proposing a transaction should clearly explain the economic and strategic rationale behind it. We will review a proposed transaction to determine the degree to which it can enhance long-term shareholder value. We find long-term investors like our clients typically benefit when proposed transactions have the unanimous support of the board and have been negotiated at arm’s length. We may seek reassurance from the board that the financial interests of executives and/or board members in a given transaction have not adversely affected their ability to place shareholders’ interests before their own. Where the transaction involves related parties, the recommendation to support should come from the independent directors, a best practice in most markets, and ideally, the terms should have been assessed through an independent appraisal process. In addition, it is good practice that it be approved by a separate vote of the non-conflicted parties.
OK, so decisions will be with an eye to the long-term economic interests of clients. I think we can assume that for practical purposes this once again means ‘price’ but it is not clear how the manager arrives at a figure if at least some clients are on both sides of the deal. In reality a manager like BlackRock will have thousands of clients spread across hundreds of funds so this must be a common occurrence.
To put this in perspective it’s well known that a common merger arbitrage strategy is long the target/short the acquirer. Admittedly this is a relatively short-term strategy - the duration of the bid and its completion - but it does demonstrate that an investor holding everything can’t solely make the decision on behalf of clients on the basis that the price being offered for the target is a good one.
In addition, the stated policy makes it sound like the manager plays a passive role in any takeovers. The offer comes in and the manager considers it in light of client interests and with some consideration of governance issues relating to the bid.
Coincidentally, while I have been thinking about this post BHP’s pursuit of Anglo American has been in the news. BlackRock looks to be Anglo’s biggest shareholder with about 9.7% and 6.7% in BHP. A quick look at the share register shows that much of this is through ETFs and mutual funds. But it does also run a couple of hundred active funds and so it would seem likely it has exposure there too.
What caught my eye last week was a story in the FT claiming that BlackRock has been encouraging the Anglo American board - which has rejected BHP’s various offers to date - to hold “meaningful negotiations” with BHP. If accurate, that does not look like an investor playing a passive role during a takeover. It is more what I would expect from more activist investors in the company.
I don’t think these are easy issues. On the one hand, it does feel somewhat incongruous for passive managers to be playing an active role in takeovers given that their positions in companies derive from client decisions that I do not think mandate this. On the other, if these managers are the largest shareholders in many companies that are or could be subject to bids it would also feel odd if they made black box decisions. But the whole area really deserves further scrutiny.
Final related point: there has been an awful lot of talk about the dire state of UK listings. For good or ill, miners have been an important group of companies. If the UK is serious about the number of companies that are listed on the LSE (the duration of listing), rather than the number that are listing (the activity) it would surely be looking very closely at takeovers. My feeling is that in reality much of the debate is driven by those who make money from activity - hence the relative silence about the takeover regime.
I supposed one could argue that an active M&A market might boost market returns and thus AUM and thus fees, but that feels like too much of a stretch to me to be a significant driver of decision-making.