London, 9 February 2006: First results of an ongoing independent study of shareholder activism in the UK have found that activism can produce outcomes that generate significant returns for shareholders. The work was co-authored by Professor Marco Becht, ECARES, Université Libre de Bruxelles, Professor Julian Franks, Centre for Corporate Governance, London Business School, Professor Colin Mayer, Said Business School, and Professor Stefano Rossi, Stockholm School of Economics. The results of the study were presented at a conference at the London Business School on February 9th that was organised jointly by the London Business School Centre for Corporate Governance, the ECGI and the Journal of Applied Corporate Finance.

Many commentators have been sceptical about the value of shareholder activism, believing it to be disruptive and short-termist. Evidence about its effectiveness has been inconclusive or found activism to generate no net-returns, in particular pension fund activism in the United States. Legal scholars have pointed to the US legal and institutional environment as a possible explanation for the missing link. Legal scholars have also argued that the UK provides the ideal setting for shareholder activism to work, given the legal and cultural environment, making the UK an ideal “laboratory” for activism research.

The team focused on the Hermes UK Focus Fund (“the Fund”), which invests in companies that are fundamentally sound but whose shares have underperformed the market as a result of strategic, governance or financial structuring weaknesses and where Hermes believes shareholder involvement can be the catalyst for change and result in improved performance.

On a confidential basis the team was given access to Hermes’ own records including letters, memos, minutes, presentations, transcripts/recordings of telephone conversations, client reports and staff’s personal notes and recollections. The Fund in the study was invested in 41 stocks with an average holding period of 691 days (785 for 30 closed positions and 11 stocks still held). The stakes held by all Hermes funds ranged from one to 15 per cent.

The team found that the Fund had engaged with 30 of the stocks held, had decided not to engage with eight (in some cases because change was brought about by means outside Hermes influence) and had yet to engage with three of the stocks. Of the 30 stocks engaged with, the engagement was characterised as collaborative in 10 cases, confrontational in 10, very confrontational in two, and mixed in the remainder of cases. The average holding periods in the stocks where there was engagement, and in particular, where that engagement was confrontational, were the longest of all stocks held (894 days and 1063 days respectively).

The objectives of the engagement fell broadly under three headings, namely: restructuring, financial policies and board changes. Engagement with the companies was conducted most frequently by behind the scenes methods of contact with the management and the board and contact with other shareholders, and far less often at public shareholder meetings or through other public channels.

The Fund succeeded in securing its desired outcomes in the majority of cases. For example, Board changes at the top (Chairman and Chief Executive) followed the Fund intervention as well as changes in cash payouts, rights issue plans and capital expenditure plans. The Fund was perhaps less successful in influencing restructuring where more focus on the core business was achieved in just over half the stocks.

The ongoing study examines the performance of stocks held around the time of public announcements of events, such as restructuring, board changes and payout announcements, both in the run up to the event and in its aftermath. On average there was economically large outperformance by the stocks in question around the event. These events contributed significantly to the Fund’s overall performance.