I recently attended the annual general meeting of a relatively small public company traded on the TSX-V (market cap as of 11/29/13 was 9.121M) where a group of disgruntled shareholders launched a coup against the company’s management and attempted to entirely replace the board of directors. This coup reminded me of a higher-profile shareholder campaign that was led by Pershing Square against CP Rail’s board of directors and upper-management in 2012. At that time, I was intrigued by the success of Pershing Square’s campaign to add board members and to ultimately change the management of the iconic Canadian company; however, I, like most Canadians, still assumed that shareholder activism was something that was limited to powerful institutional investors, uber-wealthy individual shareholders, and political stakeholders. That assumption is becoming increasingly incorrect as we move forward in today’s marketplace.

What is Shareholder Activism?

The term “shareholder activism” refers to when a shareholder uses an equity stake in a corporation to put public pressure on its management. This pressure can relate to management’s financial strategies (i.e. the issuing of dividends or financing offers) or to bring about social change (i.e. company policies with respect to the environment or politically sensitive regions). The ultimate activist shareholder maneuver is an attempt to gain control of the company by replacing its directors and senior management.

Meeting of Shareholders

Because the directors of a company are responsible for the day-to-day oversight of the company’s senior management, a shareholder’s opportunity to become involved stems from proposals discussed at a shareholder’s meeting and the election of the directors. In Canada, companies are required by law to hold an annual meeting of shareholders. In addition to this annual meeting, any individual or group of shareholders holding at least 5% of the company’s issued and outstanding shares can call a special meeting of shareholders. Persons or organizations holding at least a majority of the shares entitled to vote at the special meeting must be present (either in person or by proxy) at the beginning of the meeting in order for a quorum to be present. If a quorum is not present, the meeting must be cancelled or adjourned. The number of shareholders that constitute a quorum can be increased by an amendment to the company’s by-laws.

Once the meeting is duly called with a quorum present, the company may conduct its business and thus, the activist shareholder has an opportunity to pursue its objectives. In Canada, at any meeting of shareholders, all of the company’s directors are eligible to be dismissed by an ordinary resolution (50%+1 of the shares eligible to vote that are present at the meeting), regardless of the term that they were elected for. Similarly, any person can be nominated to become a director (they must be present at the meeting or consenting to the nomination and meet the basic statutory requirements) and voted into that position by ordinary resolution. The total number of directors can also be increased or decreased by ordinary resolution. Moreover, shareholders can vote on proposals that are properly put before the meeting with respect to specific business that they find of interest (financially, socially, ethically, etc.)

Surprising Issuers

For a variety of reasons, including shareholder protection, Canada has an Early Warning System that is intended to ensure that the market is notified when a single investor accumulates 10% of a company’s issued and outstanding shares (this number is 5% with respect to companies traded on American exchanges). Therefore, once a single activist investor reaches the 10% threshold, a news release must be published. However, an acquisition of up to 9.9% of a public issuer is possible without notice. Furthermore, under certain circumstances, there are derivative strategies that may permit investors to obtain effective control of positions that exceed the 10% threshold. As such, an activist shareholder may have the opportunity to catch management off guard by controlling a larger proportion of the company’s shares than management anticipated prior to a shareholder meeting.

Finding and Securing Support

A proxy is an agent who is legally authorized to act on another another’s behalf. At a shareholder meeting, the proxy-holder is entitled to vote the proxy-giver’s shares. Generally, management has an advantage when it comes to the solicitation of proxies, in that they are permitted by law to use corporate resources in this endeavor. Nonetheless, a determined activist shareholder has a vested interest in locating other shareholders with the same points of view. Proxy solicitation is an invaluable tool to spread information amongst shareholders, and to garner the support of those shareholders that do not attend shareholder meetings.

Voting trusts and pooling agreements, are arrangements that are created to combine the voting power of shareholders. With respect to shareholder activism, these are constructed between shareholders who share similar standpoints regarding the company’s management. There are no legal limits on these agreements – the Supreme Court of Canada has affirmed that shareholders have unfettered discretion to combine their interests and voting powers as they see fit. The agreements can be structured for a one-time vote, or with more long-term goals in mind and can be focused on ethical or financial issues, or both.

Speaking Publicly

Activist investors hold an upper hand when it comes to discussing the issues in a public forum. There is minimal risk to investors that they will face liability for their public comments, and thus they are generally free to criticize management, whether warranted or not. On the other hand, an issuer and its management face statutory and civil liability for any misrepresentations and they must meet strict disclosure requirements if they are making statements regarding the company’s future prospects.

Understanding what is Important to You

The growing prominence of shareholder activism demonstrates an economy where issuers and their management are becoming increasingly and more immediately accountable to their investors. It is inspiring that we are witnessing the growth of this phenomenon not only with respect to financial concerns, but with respect to moral and social concerns as well. However, regarding activism geared towards financial returns, it is important to be cognizant of the benefits of a solid long-term corporate strategy before participating in an active pursuit of short-term financial gains.