Some words are so misused they should be abolished from the financial lexicon. “Stake” is an example. To many readers, this is a shorthand for “shareholding”. It suggests that when sophisticated investors, such as Patrick Drahi or Elliott Management, “take a stake” in a publicly quoted business, their interests are closely aligned respectively with ordinary shareholders in BT Group or GSK.
Investors have traditionally paid to play if they want to intervene in how companies are run. Influence is deemed proportionate to their cash outlay on ordinary shares.
But that would make activism, which depends on winning support from long-term investors, an expensive business. The professionals therefore often use derivatives and leverage to get cheap voting rights. They may also avoid the disclosure of significant holdings that would otherwise apply. They do this by wielding voting rights via investment banks who enjoy important disclosure exemptions.
Their real exposure to gains and losses may be far lower than that of the so-called long funds that invest for pension schemes and insurers. Management and media can therefore overestimate activists’ real financial commitment — and thus the alignment of their interests with other investors.
Activists and other corporate raiders are broadly a good thing. They challenge complacent bosses and highlight failed strategies. To be fair, they rarely use the word “stake”, preferring vaguer phraseology. But it is time for them to face a little more challenge over their own dealings.
Elliott is the easiest example to start with. The New York hedge fund ranks as the world’s most influential activist, winning some notable victories over the likes of BHP and Alliance Trust. In the UK it is at involved with GSK and SSE, where it advocates disposals, and with Taylor Wimpey, where it has called for a management overhaul. In announcements, it has described itself as owning “a significant position” in the pharma group and of being a “top five investor” in both the energy supplier and the housebuilder.
Databases such as Bloomberg and S&P Global do not record any shareholder registry data to show Elliott has direct stakes of any size in any of these companies.
It is at such moments of doubt that PR folk rally round to explain to the poor, naive financial writer that hedge funds such as Elliott get their exposure by more efficient means. The problem with the explanation is that these exposures are rarely disclosed in any detail, so the real scale of their investments cannot be verified.
A little hygienic sunshine fell on them in 2019 via Securities and Exchange Commission filings on the abortive investment of Sherborne in Barclays. The US activist had claimed a 5.5 per cent investment in the UK bank, notionally worth about £2bn. It transpired two-thirds of this “stake”, was accounted for by a “cap-and-collar” derivatives deal with Bank of America. This limited gains and losses, and collateralised a $1.4bn loan.
French tycoon Drahi could have theoretically used similar methods to finance the 18 per cent shareholding in BT acquired by his highly leveraged telecoms group Altice. One way to raise debt to pay for part of this would be to pledge shares via an option to sell them at a fixed price in a deal involving an investment bank.
Supposing slightly less than 10 percentage points of Altice’s stake was covered by such an arrangement, its net unhedged exposure to BT would be more than 8 percentage points. The company would still wield 18 per cent of the votes on any big strategy change.
Some City of London professionals believe such an arrangement exists, or existed. Others dismiss the idea as a conspiracy theory. Altice declines to comment. However, its own European business was valued at just €5.7bn in last year’s buyout of minority shareholders, when net debts were about €30bn. Buying an unleveraged £3bn shareholding in BT might be a stretch for Altice.
It is customary at this point in a financial opinion column to demand greater statutory disclosure. But I do not think more regulation would help. Sophisticated investors and their investment banks would swiftly find ways to go on playing their cards close to their chests.
A simpler corrective would be for chief executives and long funds to be more sceptical. They should challenge activists and other sophisticated investors to state their detailed exposure to a target company with a sign-off from an investment bank. If the wheeler-dealers declined, it would be reasonable to wonder why. And we should stop throwing that silly word “stake” around.