In 2021, Danone’s board of directors, under pressure from activist Bluebell Capital and Artisan Partners, ousted the company’s CEO Emmanuel Faber — a longtime advocate of stakeholder capitalism. This decision puzzled many observers; in an age where the business community seems to be readily embracing stakeholder capitalism, Faber and Danone were stalwarts. Now Unilever — another stakeholder-centered consumer goods darling — is under similar strain from an even more well-equipped and seasoned activist investor, Nelson Peltz.
These predicaments companies are increasingly finding themselves in with activist investors are disrupting the stakeholder agenda and costing CEOs their jobs. But they should not surprise us.
Steadily rising societal expectations are pushing companies to put their stakeholders first, and shareholders second — but some shareholders are not having it. Companies that don’t comply with the stakeholder capitalism agenda are quickly sanctioned by consumer groups and the media; and CEOs who fall short can become instant pariahs. As a result, companies are quick to boast their “corporate purpose” and returns they expect from their newly designed stakeholder-centered strategies while neglecting that many shareholders still focus on firms’ near-term stock returns. When those stakeholder-centered initiatives come up short in translating into expected stock price improvements, management can lose support from shareholders on which activists are waiting to capitalize.
The support for corporate stakeholder-centered strategies would be greatly enhanced if managers retooled their shareholder management to align with their stakeholder strategies. In doing so, the power activists wield to undermine such strategies would also greatly diminish.
The traditional approach to shareholder management has involved preparing a carefully scripted narrative about a company’s strategy and broadcasting the story widely to a diverse set of prospective investors, typically through mission statements, annual reports, and investor roadshows.
However, in today’s era of stakeholder capitalism and investor activism, a narrative-first approach is insufficient to maximize shareholder support and to avoid the type of activist debacles Danone and Unilever — and many others — have recently found themselves in.
A main oversight of a narrative-first approach is that it does most to attract shareholders who are tempted by the returns of stakeholder-centered strategies rather than the long-term business vision. Understandably so, optimistic managers often overclaim the expected returns from their “flavor-of-the-day” ESG (environment-social-governance) plans, luring in whatever shareholder “fish” are attracted to the promise of high shareholder returns from their plans.
Yet, such shareholders who pay attention (and actually trade) on these messages are exactly the type of shareholders who can make it difficult for managers to devise and implement stakeholder initiatives effectively. These shareholders are quickly unforgiving of a key intertemporal bind managers often find themselves in with stakeholder-centered strategies: Such plans can take substantial time to produce far but uncertain returns. Therefore, when managers oversell stakeholder-centered initiatives, shareholders attracted to those messages can quickly become discontent when those strategies come up short — or don’t produce results fast enough. Shareholders who have not become strong supporters of the business will slowly withdraw – or worse, lend their support to an activist entrant with a “better” plan.
A narrative-first approach creates a second major problem: It can be used by activists to swing indexers (and other “neutral” shareholders) against management. With the rise of passive investing by index funds, many shareholders have limited to no interest in understanding the thousands of firms they hold in their portfolios, and little loyalty to any given company. Many outsource their voting entirely to proxy advisors. Accordingly, when stakeholder initiatives fall short, activists can (and will, as evidenced by Danone and Unilever) use managers’ promises of shareholder returns that never materialized against them.
As stakeholder capitalism collides with shareholder primacy, shareholder cultivation becomes a much-needed solution to this bind managers find themselves in.
Shareholder cultivation requires managing shareholder relationships in such a way to attract and retain steward shareholders that provide not only long-term capital but also advice and counsel that is critical to ongoing corporate success. Steward shareholders can benefit firms in the age of stakeholder capitalism for three reasons. First, these shareholders reduce firm stock price volatility. Steward shareholders focus on long-term stock returns and will not trade as readily on negative news, providing management with patient capital. Second, steward shareholders help companies identify effective stakeholder management initiatives. As stewards invest in a small number of portfolio firms, sometimes only one to two dozen, this allows these shareholders to develop rich insights into which stakeholder management initiatives work effectively. Third, as short-term shareholders may follow steward shareholders in their trading strategies, trusting them as well informed, ownership by stewards can help foster an overarching sense of confidence in management that cuts across shareholder types.
In a nutshell, shareholder cultivation in the age of stakeholder capitalism requires management to identify steward shareholders and then foster symbiotic relationships with them.
Cultivating Steward Shareholders
We offer four sets of tools managers can use to cultivate steward shareholders. These tools are classified into four types based on two dimensions: time-to-efficacy, which refers to the time needed for the tactics to take effect, and implementation difficulty, which pertains to resource demands and potential resistance managers may face in carrying out the tactics.
1. Leveraging tools
By leveraging existing relationships, managers can engage existing steward shareholders to identify and attract additional stewards. Managers can also appoint independent directors who also serve as directors of firms with substantial holdings by steward shareholders and then use those directorships to attract stewards. Moreover, managers can leverage relationships with their companies’ suppliers and customers to seek investment from steward shareholders.
Credit Acceptance, an auto financing company, recruited individuals from two of its longest and most loyal shareholders to its board. Instead of waiting for activists to take board seats, the company leveraged these two directors to improve its long-term capital allocation strategy, which not only paid dividends for all shareholders but also gave voice to two of its most loyal shareholders.
These tools can help firms target steward shareholders directly and thus are associated with high time-to-efficacy. Meanwhile, these tools entail low implementation difficulty because they do not require approval from board members or shareholders.
2. Ownership tools
Managers can increase the base of steward shareholders through private placements, which entail selling a set number of shares to pre-selected shareholders. This allows firms to directly target steward shareholders and make them more powerful over potential dissident investors. Managers can also adopt time (tenure) weighted voting rights that grant more voting power to stewards. Steward shareholders are incentivized to invest in firms with time weighted voting because voting rights give them more say in corporate affairs.
The J.M. Smucker Company uses time weighted voting to grant long-term shareholders more voting power over short-term traders and potential dissidents. At Smucker, an investor receives 10 times more votes per share once they have held their shares for more than four years, well past the average activist hedge fund’s holding period of about one year. Using this structure has helped the company survive for over a century by rewarding long-term investors and minimizing the voice of the “make-money-now” crowd that can pressure management into myopic decision-making, something some its peers without this voting system have suffered from.
Although ownership tools can help companies attain steward shareholders quickly, they are difficult to implement. Private placements reduce the scope of steward shareholders that a firm can target and the adoption of time weighted voting typically requires the initial approval from shareholders. Ultimately, ownership tools can be highly efficacious but difficult to implement.
3. Governance tools
Managers can make changes to their governance practices to attract and retain steward shareholders. The key lies in understanding the types of governance practices that stewards favor. Most often, managers could benefit by focusing more attention on changes in board composition, appointments of certain director types, and the adoption of executive compensation schemes that align with steward shareholders’ long holding periods. For the latter, the challenge is not so much about under- or over-paying executives, but incentivizing them properly to ensure a focus on long-term value, with the right metrics that prioritize shareholder interests.
PepsiCo appeases stewards with executive incentive plans that prioritize long- term performance, which is what stewards prize. For one, the company compensates its CEO relatively little in salary (fixed) compared to equity-based (variable) pay. Moreover, most of the CEO’s performance-based payouts are dependent on achieving long-term targets, often at least three years out, sometimes seven to ten, some of which are also tied to ESG performance to cater to PepsiCo’s growing cohort of socially minded investors. The company also awards little pay in the form of short-term stock options, which can incentivize gaming stock prices to the detriment of stewards.
Time-to-efficacy can be long for governance tools because governance changes can take time and steward shareholders may not immediately reward such changes. Because changes in governance practices can involve internal power struggles in boards and between boards and shareholders, governance tools are often associated with high implementation difficulty.
4. Rhetoric tools
Managers can attract steward shareholders using rhetoric spinning. Here, corporate leaders need to understand steward shareholders’ preferences and frame their corporate messages in ways that resonate with steward shareholders. But managers should be careful not to provide just boilerplate language, which is common in the narrative-first approach that is akin to fishing for any type of shareholder. Our research shows, for instance, that companies that favor more words related to long-term temporal horizons and connect different non-shareholding stakeholders to their underlying strategies incur fewer penalties from short-term shareholders.
Paul Polman’s used rhetoric tools when he took over the leadership of Unilever. Shortly after his appointment, Polman announced that “hedge funds have a place in society, but no place in a company like ours.” Unsurprisingly, the company’s stock price took a sharp nosedive, but Polman held his ground and communicated his intention to manage Unilever for the long term, which necessitated getting away from quarterly earnings conversations and targets. Over the ensuing months and years, Polman continued to communicate on long-term plans and Unilever’s investor base slowly transformed from being heavily dominated by short-term traders to being over 80% owned by long-term stewards.
Similar to governance tools, rhetoric tools are associated with a long time-to-efficacy as steward shareholders will take time to buy into the messaging they observe, which needs to occur regularly over long periods. Yet, unlike governance tools, rhetoric tools are relatively easy to implement because managers have discretion in corporate communications.
Using these four sets of tools, managers can build a base of steward shareholders that are sure to offer their support for companies’ stakeholder-centered initiatives.
Yet, retention is different. And to be most effective, and defensive against a potential activist and other dissidents, managers need to routinely conduct a fifth and final step: monitoring. Governance experts often speak of shareholders’ role to monitor management, but managers need to do the same for their shareholders, albeit differently. The goal of monitoring is to keep a pulse on steward shareholders to ensure they remain satisfied with management and continue to support the company’s purpose and plans.
Monitoring is not new in shareholder relations, but many companies fail to do it well. Companies fall somewhere between doing no monitoring at all to paying expensive fees for third-party surveys of their shareholder base that are of limited use in cultivating steward shareholders.
The approach that we propose is to apply data-driven monitoring, which relies on carefully analyzing steward shareholders’ metrics to assess their support — or pulse. Used with varying complexity, two main sources of data inputs are most useful in assessing a company’s level of steward support. Such metrics can also preemptively predict, as in the case of Danone, when a management team is on thin ice and an activist may be orchestrating a move behind the scenes.
Ownership relative to assets under management.
Unlike indexers, a company’s greatest steward shareholders do not need to own certain companies, or even certain industries. They often handpick just 20 or so companies in which to invest. This means that managers need to be ultra-diligent about assessing their ownership on an ongoing basis. Significant quarterly downward changes in their proportion of ownership can signal troubled waters.
The second indicator is a steward’s annual voting. Following annual shareholder meetings, managers often care too much about the vote outcome on each proposal and spend too little time analyzing the direction in which each shareholder voted. Whether stewards voted with dissidents or supported management, and whether the trend in their voting is changing over time, is useful information for managers considering who their stewards are and how much support they are likely to have going forward.
The rise of stakeholder capitalism poses both opportunities and threats for management. Although most discussions have focused on the potential opportunities arising from stakeholder capitalism, a salient challenge for managers is how to balance the interests of stakeholders and shareholders alike. Absent support from steward shareholders, companies can quickly become easy targets of profit-motivated activists despite the companies’ attention to its other stakeholders. The tools outlined here can aid managers in cultivating strong relationships with steward shareholders that enable stakeholder-centered strategies and long-term thinking.
This content was originally published here.