Long term

THE LONG-TERM EFFECTS OF HEDGE FUND ACTIVISM

Lucian A. Bebchuk,* Alon Brav,** and Wei Jiang***

We test the empirical validity of aclaim that has been playing a centralrole in debates on corporate governance—the claim that interventions by activist hedge funds have a detrimental effect on the long-term interests of companies and their shareholders. We subject this claim to acomprehensive

empirical investigation, examining alongfive-year window following

activist interventions, and we find that the claim is not supported by the data.

We find no evidence that activist interventions, including the investment-limiting and adversarial interventions

that are most resisted and criticized, are followed by short-term gains in performance that come at the expense of long-term performance. We also find no evidence that the initial positive stock-price spike accompanying activist

interventions tends to be followed by negative abnormal returns in the long term; to the contrary, the evidence is consistent with the initial spike reflecting correctly the intervention’s long-term

consequences. Similarly, we find no evidence for pump-and-dump patterns in which the exit of an activist is followed by abnormal long-term negative returns.

Our findings have significant implications for ongoing policy debates.Policymakers and institutional investors should not accept the validity of the assertions that activist interventions are costly to firms and their shareholders in the long term; suchclaimsdonotprovideavalid basis for limiting the rights,

powers, and involvement of shareholders.

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* William J. Friedman and Alicia Townsend FriedmanProfessor of Law, Economics, and Finance and Directorof the Program on Corporate Governance, Harvard Law School.

** Robert L. Dickens Professor of Finance, Fuqua School of Business,Duke University and National Bureau ofEconomic Research.

*** Arthur F. Burns Professor of Free and Competitive Enterprise, Columbia BusinessSchool.We wish to thank KobiKastiel, Bryan Oh, Heqing Zhu, and especially Danqing Mei for their invaluableresearch assistance.We alsobeneﬁtted from conversations with and comments from Yakov Amihud, AllenFerrell, Jesse Fried, Robert Jackson, LouisKaplow,

Mark Roe, Steven Shavell, Andrew Weiss, and workshop and conferenceparticipants at Harvard, Columbia, the Harvard Roundtable on Hedge FundActivism, the Federalist Society Convention, and the Annual IBA InternationalM&A Conference.We receivedﬁnancial support from Harvard Law School, Duke University’s Fuqua School ofBusiness, and Columbia Business School.

1085

INTRODUCTION..................................................................................................................................... 1087

[if !supportLists]I. [endif]THE MYOPIC-ACTIVISTS CLAIM 1093

[if !supportLists]A. [endif]The Claim 1093

[if !supportLists]B. [endif]The Need for Evidence 1096

[if !supportLists]II. [endif]THE UNIVERSE OF HEDGE FUND ACTIVISM 1098

[if !supportLists]III. [endif]OPERATING PERFORMANCE 1101

[if !supportLists]A. [endif]Metrics of Performance 1101

[if !supportLists]B. [endif]Operating Performance Following ActivistInterventions. 1103

[if !supportLists]C. [endif]Regression Analysis 1106

[if !supportLists]1. [endif]Baseline Specifications 1106

[if !supportLists]2. [endif]Using High-Dimensional Fixed Eﬀects 1111

[if !supportLists]D. [endif]Controlling for Past Performance 1114

[if !supportLists]E. [endif]Interpreting Our Findings 1117

[if !supportLists]1. [endif]A Clear Pattern 1117

[if !supportLists]2. [endif]Adverse Eﬀect on the Post-Acquisition Performance of Acquired Firms................................................... 1118

[if !supportLists]3. [endif]Stock Picking 1119

[if !supportLists]IV.[endif]STOCK RETURNS 1120

[if !supportLists]A. [endif]Short-Term Returns 1121

[if !supportLists]B. [endif]Subsequent Reversal? 1123

[if !supportLists]1. [endif]Individual-Firm Regressions 1123

[if !supportLists]2. [endif]Buy-and-Hold Abnormal Returns 1126

[if !supportLists]3. [endif]Portfolio Analysis 1127

[if !supportLists]4. [endif]Summary 1130

[if !supportLists]C. [endif]Pump and Dump? 1130

[if !supportLists]1. [endif]The Question 1130

[if !supportLists]2. [endif]Individual-Firm Regressions 1131

[if !supportLists]3. [endif]Buy-and-Hold Results 1132

[if !supportLists]4. [endif]Portfolio Analysis 1133

[if !supportLists]5. [endif]Summary 1134

[if !supportLists]V. [endif]ACTIVIST INTERVENTIONSTHATARE ESPECIALLY RESISTED 1135

[if !supportLists]A. [endif]Investment-Limiting Interventions. 1135

[if !supportLists]B. [endif]Adversarial Interventions 1141

[if !supportLists]VI. [endif]INCREASED VULNERABILITY TO ECONOMIC SHOCKS? 1145

[if !supportLists]A. [endif]Operating Performance During the Crisis.................................... 1145

[if !supportLists]B. [endif]Financial Distress and Delisting During the Crisis...................... 1147

[if !supportLists]VII. [endif]POLICY IMPLICATIONS................................................................................................... 1064

[if !supportLists]A. [endif]Balance of Power BetweenShareholders and Boards........................................................................ 1148

[if !supportLists]B. [endif]Staggered Boards 1149

[if !supportLists]C. [endif]Reforms of Corporate Elections 1150

[if !supportLists]D. [endif]Limiting Rights of Shareholders with Short HoldingPeriods .1152

[if !supportLists]E. [endif]Disclosure of StockAccumulations by Activist Investors 1153

[if !supportLists]F. [endif]Boards’ Dealings withActivists 1153

CONCLUSION.................................................................................................................................. 1154

INTRODUCTION

Hedge fund activismis now a key aspectof the corporate landscape.Activists have been engaging with and inﬂuencing major American companies, andthe media has been increasingly referring to the current era as the“golden age of activist investing.”1 The increase in hedge fund activism, however, has been meetingwith intense opposition from public companiesand their advisers, creating a heated debate.2 Is hedge fund activism a catalyst of beneﬁcialchanges that legal rules and corporate arrangements should facilitate? Or aresuch activists short-termoppor- tuniststhat are detrimental to long-term value creation and that legal rules andcorporate arrangements should discourage? This Article aims to advance thisdebate by putting forward empirical evidence that re- solves some of the keyunderlying disagreements. Our ﬁndings have important implications for ongoingpolicy debates on activism and the rights and role of shareholders.

We focus on the “myopic-activists” claim that has beenplaying a central role in debates over shareholder activism and the legal rulesand policies shaping it. According to this claim, which we describe in detail in Part I, activist shareholders withshort investment horizons, especially activist hedge funds, push for actionsthat are proﬁtable in the short term but are detrimental to the long-terminterests of companies and their long-term shareholders.3 The problem, it is claimed, results fromthe failure of short-term performance ﬁgures and short-term stock prices toreﬂect the long-term costs of actions sought by activists. As a result,activists with a short investment horizon have an incentive to seek actions that would increase short-termprices at the expense of long-term performance, such as excessively reducinglong-term investments or the funds available for such investments.

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[if !supportLists]1. [endif]For recent media observations referring to the current eraas the golden age of activist investing, see, e.g., Ken Squire, A Golden Age for ActivistInvesting, Barron’s(Feb. 16, 2009),http://online.barrons.com/news/articles/SB123457667407886821(on ﬁle with the Columbia Law Review); NathanVardi, The GoldenAge of Activist Investing, Forbes(Aug. 6, 2013, 8:25 AM), http://www.forbes.com/sites/nathanvardi/2013/08/06/the- golden-age-of-activist-investing/ (on ﬁle with the Columbia Law Review).

[if !supportLists]2. [endif]See, e.g., infra notes 23–26, 29–31 and accompanying text

(discussing writings questioning whether activist investors are beneﬁcial for

corporations and their shareholders).

[if !supportLists]3. [endif]See, e.g., infra notes 23–26 and accompanying text(discussing works suggesting activist investorsharm long-term interestsof companies and their shareholders).

1088 COLUMBIA LAW REVIEW [Vol. 115:1085

The myopic-activists claim has been put forward bya wide range of prominent writers. Such concerns have been expressed bysigniﬁcant legal academics, notedeconomists and business-school professors, promi-nent business columnists, important business organizations, business leaders, and top corporatelawyers.4 Furthermore, those claims have beensuccessful in inﬂuencing important public oﬃcials and policy makers. Forexample, Leo StrineJr. and JackJacobs, two prominent Delaware judges, have expressed strong concerns about short-sighted interventions by activists.5 And concerns about intervention byactivists with short horizons inﬂuenced theSEC’sdecision to limit use of the proxy rule adopted in 2010 to shareholdersthat have held their shares for more than three years.6

The policy stakes are substantial. Invoking the

long-term costs of activism has become a standard move in arguments for

limiting the role, rights, and involvement of activist shareholders.7 In particular, such arguments have been

used to support, for example, allocating power to directors rather than

shareholders, using board classiﬁcation to insulate directors from

shareholders, impeding shareholders’ ability to replace directors, limiting the

rights of shareholders with short holding periods, tightening the rules

governing the disclosure of stock accumulations by hedge fund activists, and

corporate boards’ taking on an adversarial approach toward activists.8

Even assuming that capital markets are informationally ineﬃcient and activistshave short investment horizons, the claim that activistinter- ventions are detrimental to the long-term interests ofshareholders and companies does not necessarily followas a matter of theory.9 The claim is thus a factual proposition that can beempirically tested.However, those

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[if !supportLists]4. [endif]For references to such writings, see infra note 22.

[if !supportLists]5. [endif]See Jack B. Jacobs, “PatientCapital”: Can DelawareCorporate Law Help ReviveIt?, 68 Wash. & Lee L.Rev. 1645,1649, 1657–63 (2011) (expressing concerns about “decline . . . of patientcapital and the substitution, in its place,of impatient capital,driven by parallel pressures from investors . . . to generate short-termproﬁts”); Leo E. Strine,Jr., OneFundamental Corporate Governance QuestionWeFace: Can CorporationsBe Managedfor the LongTerm Unless TheirPowerful Electorates Also Act and Think LongTerm?,66 Bus.Law. 1, 7–9, 26(2010) [hereinafter Strine, Fundamental Question] (“[T]here is a dangerthat activist shareholders will make proposalsmotivated by interests other than maximizing the long-term, sustainable proﬁtability of the corporation.”).

[if !supportLists]6. [endif]See Facilitating Shareholder Director Nominations, 75 Fed. Reg. 56,668, 56,697–

99 (Sept. 16,

2010) [hereinafter Director Nominations] (discussing rationale behind adopting

three-year holding requirement).

[if !supportLists]7. [endif]For a broad range of writings makingsuch moves, see infra notes 109–132.

[if !supportLists]8. [endif]For a discussion of, and references to, such arguments, see infra Part VII.

[if !supportLists]9. [endif]See Lucian A. Bebchuk, The Myth that Insulating BoardsServesLong-Term Value, 113 Colum.L. Rev. 1637, 1660–76(2013) [hereinafter Bebchuk,Myth] (analyzing conceptual structure of myopic-activists claimand showing myopic-activists claim does not follow from assuming existenceof ineﬃcient capitalmarkets and shortactivist horizons).

2015] HEDGE FUND ACTIVISM 1089

advancing the myopic-activists claim have thus far

failed to back their claims with large-sample empirical evidence, relying

instead on their (or others’) impressions and experience.10

In this Article,we conduct a systematic empirical investigation of the myopic-activists claim,focusing on interventions by activist hedgefunds.We ﬁnd that the myopic-activists claim is not supported by the data.

Prior to ourwork,ﬁnancial economists had already put forward evidence that Schedule 13D ﬁlings—public disclosures of the purchaseof a signiﬁcant stake by an activist—are accompanied by signiﬁcant positive stock-price reactionsas well as followed by subsequent improvements in operating performance.11 However, supporters of the myopic-activists claim have dismissed this evidence, assertingthat improvements in oper-ating performance are short-lived and come with the cost of subsequent declinesin performance and, furthermore, that short-term positive stock reactions todisclosures of an activist stake merely reﬂect ineﬃcient market prices thatfail to reﬂect the costs of the long-term declines in performance. Thus, in awidely circulated memorandum of the law ﬁrm Wachtell, Lipton, Rosen & Katz, MartinLipton, a prominentsupporter of themyopic-activists claim, argued that the important question is, “[f]or companiesthat are the subject of hedge fund activism and remain inde- pendent, what isthe impact on their operational performance and stock- price performancerelative to the benchmark, not just in the short period after announcement ofthe activist interest, but after a 24-monthperiod,”and challenged those supporting activism to study this importantquestion.12

In this Article, we meet this challenge. Going

beyond the twenty- four-month period, we study how operational performance and

stock performance relative to the benchmark evolve during the ﬁve-year peri- od

following activist interventions. We ﬁnd that the empirical evidence does not

support the predictions and assertions of supporters of the myopic-activists

claim.

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[if !supportLists]10. [endif]See, e.g., Martin Lipton, Wachtell,Lipton, Rosen & Katz, Bite the Apple;Poison the Apple; Paralyzethe Company; Wreck the Economy, Harvard Law Sch. Forum on Corporate Governance& Fin. Regulation (Feb. 26, 2013, 9:22AM), http://blogs.law. harvard.edu/corpgov/2013/02/26/bite-the-apple-poison-the-apple-paralyze-the-company-

wreck-the-economy/ [hereinafter Wachtell Memorandum, Bite the Apple] (on ﬁle

with the Columbia Law Review) (Martin Lipton stating that short-termism concerns arebased “on the decades of [his and his]ﬁrm’sexperience in advising corporations” without suggesting any empiricalbacking for his belief).

[if !supportLists]11. [endif]Studies documenting such positive abnormal returns arecited in notes 17, 74–77 infra. For a review of some of these studies, seegenerally AlonBrav, Wei Jiang & Hyunseob Kim, Hedge FundActivism: AReview, 4 Found.& Trends Fin. 185 (2009) [hereinafter Brav et al., Hedge Fund Activism: A Review].

[if !supportLists]12. [endif]Wachtell Memorandum, Bite the Apple,supra note 10.

1090 COLUMBIA LAW REVIEW [Vol. 115:1085

Our analysis is organized as follows. Part Idiscusses the myopic- activists claim we investigate and the substantial policystakes involved. Part II then describes our dataset and the universe of about2,000 activist interventions that we study. Our study uses a datasetconsisting of the fulluniverse of approximately 2,000 interventions by activist hedge funds duringthe period from 1994 to 2007. For each activist engagement, we identify the“intervention time” in which the activist initiative was ﬁrst publiclydisclosed (usually through the ﬁling of a Schedule 13D).We track the operating performance andstock returns for companies during a long period—ﬁve years—following theintervention time.We also examinethe three-year period that precedes activist interventions and the three-year periodthat follows activists’ departures.

Part III focuses on operating performance.We ﬁnd that activists tend to targetcompanies that are underperforming relative toindustry peers at the time of the intervention. Mostimportantly, there is no evidence thatactivist interventions produceshort-term improvements in performance at the expenseof long-term performance. During the long,ﬁve-year window that we examine,the declines in operating performanceasserted by supporters of the myopic-activists claim are not found in thedata. Indeed, while lack of long-term declines in performance is suﬃ-cient for rejecting the myopic-activists claim,we ﬁnd evidence, especiallywhenassessing performance using the standardmeasure of Tobin’s Q, that performance is higherthree, four, and ﬁve years after the year of intervention than at the time of intervention.

Part IV then turns to stock returnsfollowing the initialstock-price spike that is well known to accompany activistinterventions.We ﬁrst document that, consistent with the resultsobtained with respectto pre- intervention operating performance, targets of activistshave negative abnormal returns duringthe three years preceding the intervention. We then proceedto examine whether, as supporters of the myopic-activists claim believe,the initial spike in stock price reﬂectsineﬃcient market pricing that fails to reﬂect thelong-term costs of the activist intervention and is therefore followed by stock-return underperformance in the longterm. Using each of thethree standard methodsused by ﬁnancialecono- mists for detecting stock-return underperformance, we ﬁnd no evidenceof the asserted reversal of fortune during the ﬁve-yearperiod following theintervention. The long-term underperformance predicted by themyopic-activists claim, and the resulting lossesto long-term shareholders,are not found in the data.

Part IV also analyzes whether activists cash out their stakes beforenegative stock returns occur and impose losses on remaining long-termshareholders. Inparticular, weexamine whether targets of activist hedge funds experience negative abnormalreturns in the three years after an activist discloses that its holdings fellbelow the 5% threshold that subjects investors to signiﬁcant disclosure requirements. Again using thethree standard methods for detecting abnormal stock returns, we ﬁnd no

2015] HEDGE FUND ACTIVISM 1091

evidence

that long-term shareholders experience negative stock returns during the three

years following an activist’s departure.

Part V next turns to analyze the two subsets ofactivist interventions that are most resisted and criticized. One subsetconsists of interventions that lower or constrain long-term investments byenhancing leverage, increasing shareholder payouts, or reducing investments.The other sub- set consists of adversarial interventions employing hostile tactics.In both cases, the long-termdeclines in performance asserted by opponents are not found in the data.

Part VI examines whether activist interventionsrender targeted companies more vulnerable to economic shocks. Inparticular, we exam- ine whethercompanies targeted by activist interventions during the three years preceding the ﬁnancialcrisis were hit more in the subsequent crisis.We ﬁnd noevidence that pre-crisis interventions by activists were associated withgreater declines in operating performance or higher incidence of ﬁnancialdistress during the ﬁnancial crisis.

Part VII discusses the signiﬁcant implications thatour ﬁndings have for policy debates.Going forward, policymakers and institutional invest- ors should not accept the validityof assertions that interventionsby activist hedge funds are followed by long-term adverseconsequences for companiesand their long-term shareholders. Furthermore, Part VII discusses severalongoing debates in which the myopic-activists claim hasbeen playing a key role and that should thus be informed by our ﬁndings. The rejection of the myopic-activists claim should weigh againstarguments for limiting the rights and involvement of shareholders in general oractivist shareholders in particular by using staggered boards, avoiding reformsof corporate elections, and tightening the disclosure rules governing stockaccumulations by activist investors. Furthermore, corporate boards should nottake the adversarial attitude toward activist interventions that is urged bykey legal advisers.

Since early versions of this study startedcirculating, it has already had a signiﬁcant eﬀect on the ongoing debate onhedge fund activism. About ﬁfty pieces discussing the study have been publishedby, amongothers, the Wall Street Journal, the New York Times, the Economist, Harvard Business Review, Time Magazine, Bloomberg, Reuters, Fortune, Forbes,and Barron’s.13 Still, our study has also attractedsigniﬁcant resistance from opponents of activism, and senior partners ofWachtell Lipton, including foundingpartner Martin Lipton, issued several detailed memoranda criticizing our study and calling for a relianceon the “depth of real-world

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[if !supportLists]13. [endif]See Lucian Arye Bebchuk, Harvard Law Sch., http://www.law.harvard.edu/ faculty/bebchuk (on ﬁle with the Columbia Law Review) (last visited Jan. 29, 2015) (providing links to about ﬁfty mediapieces discussing thisstudy, includingpieces in publications listed above).

experience”

of business leaders rather than on any empirical studies.14 Because our study focuses on the precisequestion thatWachtell Liptonchallenged researchers tostudy, weview its current opposition to empir- ical studies of the subject asunwarranted.

In responses that we issued toWachtell Lipton’s critiques,15 and in the course of this Article, weexplain that our study addresses the methodological criticism raised in thesecritiques and that empirical evidence provides a superior tool for assessing the myopic-activists claim than anecdotes or self-reportedimpressions of business leaders.16 Below, we seek to contribute to theliterature by providing empirical evidence that could inform the ongoing debateand a foundation on which subsequent empiricalwork can build.

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[if !supportLists]14. [endif]For three such memoranda criticizing our work issued byWachtell Lipton,see Martin Lipton,Wachtell, Lipton, Rosen & Katz,The Bebchuk Syllogism, Harvard Law Sch. Forum on Corporate Governance &Fin. Regulation (Aug. 26, 2013, 12:32PM), http://blogs.law.harvard.edu/corpgov/2013/08/26/the-bebchuk-syllogism/[hereinafter Wachtell Memorandum, The Bebchuk Syllogism] (on ﬁle with the Columbia Law Review); Martin Lipton & Steven A. Rosenblum, Wachtell, Lipton, Rosen & Katz, Do Activist Hedge Funds Really Create LongTerm Value?, Harvard Law Sch. Forum onCorporate Governance & Fin. Regulation(July22, 2014, 3:55PM), http://blogs.law.harvard.edu/ corpgov/2014/07/22/do-activist-hedge-funds-really-create-long-term-value/ (on ﬁle with the Columbia Law Review); Martin Lipton,Wachtell, Lipton, Rosen& Katz, Empiricism and Experience; Activism and Short-Termism; the RealWorld of Business, Harvard Law Sch. Forum on Corporate Governance &Fin. Regulation (Oct. 28, 2013, 9:40AM),http://blogs.law.harvard.edu/corpgov/2013/10/28/empiricism-and-experience-activism- and-short-termism-the-real-world-of-business/ [hereinafter Wachtell Memorandum, Empiricism and Experience] (on ﬁle with the Columbia Law Review).

[if !supportLists]15. [endif]For posts that we issued in response to each of the threeWachtell Lipton critiques of our work, see Lucian Bebchuk,Alon Brav & Wei Jiang, Don’t Run Away from the Evidence: A Reply to WachtellLipton, Harvard Law Sch. Forum on Corporate Governance & Fin. Regulation(Sept. 17, 2013, 9:00AM), http://blogs.law.harvard.edu/corpgov/2013/09/17/dont-run-away-from-the-evidence-a-reply-to-wachtell-lipton/ (on ﬁlewith theColumbia Law Review); Lucian Bebchuk, Alon Brav &Wei Jiang, Still Running Awayfrom the Evidence: A Reply to Wachtell Lipton’s Reviewof Empirical Work, Harvard Law Sch. Forum on CorporateGovernance & Fin. Regulation(Mar. 5,2014, 9:02AM), http://blogs.law.harvard.edu/corpgov/2014/03/05/still-running-away-from-the-evidence- a-reply-to-wachtell-liptons-review-of-empirical-work/

[hereinafter Bebchuk et al., Still Running Away from the Evidence] (on ﬁle with

the Columbia Law Review); Lucian Bebchuk, Wachtell KeepsRunning Away from the Evidence, Harvard Law Sch. Forum on Corporate Governance & Fin.Regulation(July 28, 2014, 9:15AM), http://blogs.law.harvard.edu/corpgov/2014/07/28/wachtell-keeps-running-away-from-the-evidence/#more-64978 (on ﬁle with the Columbia Law Review).

16. See infra notes 35–37, 52, 55, 65,

67, 70, 78, 91, 95, 97–98 and accompanying text (addressing Lipton’s critiques

of hedge fund activism and this project).

[if !supportLists]I. [endif]THE MYOPIC-ACTIVISTS CLAIM

This Part discusses the myopic-activists claimthat this Articleaims to test empirically. Part I.A describesthe claim and its conceptual structure. Part I.B highlights the need for testing the empirical validityof the claim.

[if !supportLists]A. [endif]The Claim

Hedge fund activists might seek a wide range ofactions in the strategy and management of acompany.They might propose, for exam- ple, divesting assets, changing investmentor payout levels, altering the capital structure, or replacing the CEO.17 In recent cases that received someattention, for example, activist investors David Einhorn andCarl Icahn urged Apple to increasedistributions to shareholders,18 and hedge fund Elliott Management urged Hess to

undergo major structural changes.19 Because developing an operational change oftenrequires ﬁrst acquiring a substantial amount of company-speciﬁc information, activistsoften hold a signiﬁcant stake in the company and hope to beneﬁt from theappreciation in the value of the stake that would result fromimple- menting the change.20 In addition to seeking such“operational” changes, hedge fundactivists often seek governance changes in how the company is run or personnelchanges in its leadership.21

Critics of such activist interventions have long put forward themyopic-activists claim that the actions being sought are overall (oron average) value decreasing in the longterm even when they are proﬁtable

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[if !supportLists]17. [endif]For discussionsof the range of operational changes sought by activists, see AlonBrav, WeiJiang, Frank Partnoy & Randall Thomas, Hedge Fund Activism,Corporate Governance, and Firm Performance, 63 J. Fin. 1729, 1741–45 (2008)[hereinafter Brav et al., Hedge Fund Activism] (describing and classifyingmotives behind hedge fund activism).

[if !supportLists]18. [endif]For discussionsof the activist intervention in the Apple case, see Steven M. Davidoﬀ, Why Einhorn’sWin May Be Apple’s Gain, N.Y. Times: Dealbook(Feb. 26, 2013,10:02 AM), http://dealbook.nytimes.com/2013/02/26/why-einhorns-win-may-be-apples- gain/ (on ﬁle with the Columbia Law

Review); Michael J. De La Merced, IcahnEnds Call for Apple Stock Buyback,N.Y. Times: Dealbook (Feb. 10, 2014, 10:19AM), http://

dealbook.nytimes.com/2014/02/10/icahn-backs-oﬀ-apple-buyback-proposal/ (on ﬁle

with the Columbia Law Review).

[if !supportLists]19. [endif]See, e.g.,Elliott Management Calls for Board Shake-Up at Hess,N.Y. Times:Dealbook (Jan. 29, 2013, 8:38 AM), http://dealbook.nytimes.com/2013/01/29/elliott- management-calls-for-board-shake-up-at-hess/

(on ﬁle with the Columbia Law Review) (noting that Elliott has announced wide-ranging strategyfor Hess, which includes selling oﬀ pieces of business and spinning oﬀassets).

[if !supportLists]20. [endif]See generallyMarcel Kahan & Edward B. Rock, Hedge Funds in Corporate Governance andCorporate Control, 155 U. Pa. L.Rev. 1021,1069–70, 1088–89 (2007) (“[I]ncentives for a fund to engage in activism dependon its stake in a portfoliocompany.”).

[if !supportLists]21. [endif]See Brav et al., Hedge Fund Activism, supra note 17, at 1741–44,1753–55, 1757– 60 (discussing changes sought by hedge fund activists).

the short term. Such concerns have been expressed by a broad range of prominent

authors, including legal academics, economists and business-school professors,

business columnists, business leaders, busi- ness organizations, and corporate

lawyers.22

Then-Chancellor Strine described the essence of the myopic-activists claim advanced bycritics as follows: “[I]n corporate polities, unlike nation-states, thecitizenry can easily depart and not ‘eat their owncooking.’ As a result, there is a danger that activist stockholders will make proposalsmotivated by interests other than maximizing the long-term, sustainableproﬁtability of the corporation.”23

In a similaraccount of the claim, HarvardBusiness School professor and former Medtronic CEO WilliamGeorge stated that the essential problem is that activists’ “real goal is ashort-term bump in the stock price. They lobby publicly for signiﬁcantstructural changes, hoping to drive up the share price and book quick proﬁts.Then they bail out, leav- ing corporate management to clean up the mess.”24

Critics of hedge fund activism also express concerns about certain typesof changes that might be induced by myopic activists. Theyworry, for example, that myopic activistswill pressure companies to make cuts in “research and development expenses,capital expenditures, market development, and new business ventures,simply because they promise to payoﬀ only in the long term.”25 They also argue that activist investors use their power “to sway and bully management to . . . meet the quarterly

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[if !supportLists]22. [endif]For writings expressing such concerns by a broad range of

authors, see, e.g., Aspen Inst., Overcoming Short-Termism: A Call for a More

Responsible Approach to Investment and Business Management 2–3 (Sept. 9, 2009) http://www.aspeninstitute.org/ sites/default/ﬁles/content/docs/business%20and%20society%20program/overcome_short_state0909.pdf (on ﬁle with the Columbia Law Review); John Kay, The Kay Reviewof UK Equity Markets andLong-Term Decision Making, Final Report 9(2012) (on ﬁle with theColumbia Law Review); WilliamW. Bratton& Michael L.Wachter, The CaseAgainst Shareholder Empowerment, 158 U. Pa. L. Rev. 653, 653–54, 657–59 (2010); MartinLipton & Steven A. Rosenblum, A New System of Corporate Governance:The Quinquennial Election of Directors, 58 U. Chi. L.Rev. 187, 187–88, 203, 210–12 (1991) [hereinafter Lipton &Rosenblum, Quinquennial Election]; Justin Fox & JayW. Lorsch, What GoodAre Shareholders?, Harv. Bus. Rev., July 2012, available at https://hbr.org/2012/07/what- good-are-shareholders (on ﬁle withthe Columbia Law Review); Joe Nocera, Op-Ed, What IsBusiness Waiting For?,N.Y. Times (Aug. 15, 2011), http://www.nytimes.com/2011/08/16/ opinion/nocera-what-is-business-waiting-for.html?

(on ﬁle with the Columbia Law Review); Andrew Ross Sorkin, ‘Shareholder Democracy’ Can Mask Abuses, N.Y. Times:Dealbook(Feb. 25, 2013, 9:30 PM), http://dealbook.nytimes.com/2013/02/25/shareholder- democracy-can-mask-abuses/ (on ﬁle with the Columbia Law Review).

[if !supportLists]23. [endif]Strine, Fundamental Question, supra note 5, at 8.

[if !supportLists]24. [endif]Bill George,Activists SeekShort-Term Gain, NotLong-TermValue, N.Y. Times: Dealbook (Aug. 26, 2013, 10:56AM), http://dealbook.nytimes.com/2013/08/26/activists- seek-short-term-gain-not-long-term-value/(on ﬁle with the Columbia Law Review).

[if !supportLists]25. [endif]Lipton & Rosenblum, Quinquennial Election, supra note 22, at 210.

2015] HEDGE FUND ACTIVISM 1095

targets and disgorge cash in extra dividends orstock buy backs in lieu ofinvesting in long-term growth.”26

The myopic-activists claim that is the focus ofthis Article should be distinguished from another claim thatopponents of activism make. According to what might be referred to as thecounterproductive- accountability claim,27 the fear of shareholder intervention (oreven removal by shareholders) in the event that management fails to delivergood short-run outcomes leads management itself to initiate and take myopicactions—actions that are proﬁtable in the short term but detri- mental in thelong term. This counterproductive-accountability claim, and the empiricalevidence against it, are discussed in detail in another paper by one of us.28 In this Article, however,we focus exclusively on themyopic-activists claim.

The impact that supporters of the myopic-activists claim have had is,in ourview, at least partly due tothe alleged gravity of the concerns that some of them have raised. Someopponents, for example, have argued that shareholder activists “are preying onAmerican corporations to create short-term increases in the market price oftheir stock at the expense of long-term value”29 and that pressure from short-term activists “isdirectly responsible for the short-termist ﬁxation that led to the [2008–2009] ﬁnancialcrises.”30 The gravity of asserted concernshas reg- istered withprominent Delaware judges; then-JusticeJacobs, for exam-

[if !vml]

[endif]

[if !supportLists]26. [endif]Ira M.Millstein, Re-Examining Board Priorities in an Era of Activism,N.Y. Times: Dealbook(Mar. 8, 2013, 3:52PM), http://dealbook.nytimes.com/2013/03/08/re- examining-board-priorities-in-an-era-of-activism/(on ﬁle with the Columbia Law Review).

[if !supportLists]27. [endif]Bebchuk, Myth,supra note 9, at 1676–78 (deﬁning counterproductive- accountability claim and distinguishing it from myopic-activists claim).

[if !supportLists]28. [endif]Id. at 1676–86(discussing conceptual structure of, and lack of empirical supportfor, counterproductive accountabilityclaim). A subsequent study by Nickolay Gantchev, Oleg Gredil, and ChotibhakJotikasthira provides empirical evidence that, by increasing the threat ofactivism vis-à-vis ﬁrms similar to the targets of activist interventions, thedisclosures are accompanied by positive abnormal returns to such similar ﬁrms.See Gantchev et al., Governance Underthe Gun: SpilloverEﬀects of Hedge Fund Activism26– 28, 49 tbl. 7(Jan. 2015)(unpublished manuscript), available athttp://ssrn.com/abstract=2356544 (on ﬁle with the Columbia Law Review) (showing that announcements of activiststakes are accompanied by positiveabnormal returns to companies similarto target).

[if !supportLists]29. [endif]Martin Lipton,Wachtell, Lipton, Rosen & Katz, Important Questions About Activist Hedge Funds, Harvard Law Sch. Forumon Corporate Governance & Fin.Regulation(Mar. 9, 2013, 10:10AM), http://blogs.law.harvard.edu/corpgov/2013/03/09/ important-questions-about-activist-hedge-funds

[hereinafter Wachtell Memorandum, Important Questions] (on ﬁle with the Columbia Law Review).

[if !supportLists]30. [endif]Martin Lipton,Theodore N. Mirvis & JayW. Lorsch,The Proposed “Shareholder Bill of Rights Act of2009,” Harvard Law Sch. Forum on Corporate Governance & Fin.Regulation (May 12, 2009, 4:56PM), http://blogs.law.harvard.edu/corpgov/2009/05/ 12/the-proposed-%E2%80%9Cshareholder-bill-of-rights-act-of-2009%E2%80%9D/ (on ﬁle with theColumbia Law Review); see also Lynne L. Dallas, Short-Termism, the Financial

Crisis, and Corporate Governance, 37 J. Corp. L. 265, 268 (2012) (arguing that

short- termism contributed to recent ﬁnancial crisis).

1096 COLUMBIA LAW REVIEW [Vol. 115:1085

ple,

has accepted that the inﬂuence of short-term activists “has created a national

problem that needs to be ﬁxed.”31

The signiﬁcance of the myopic-activists claim is also due to its wide- ranging implications. As the Introduction notes,and is discussed in detail in Part VII, the myopic-activistsclaim has been playing a critical role in attempts to limit the rights andinvolvement of shareholders in many contexts. Therefore, an empiricalresolution of the validity of this claim wouldhave substantial implications for various signiﬁcant policy debates.

[if !supportLists]B. [endif]The Need for Evidence

Supporters of the myopic-activists claim believethat stock market prices are sometimes informationally ineﬃcient and are thus set at levels that do notrepresent the best estimate of long-term share value that can be derived fromall available public information.32 These supporters also stress that activist investorscommonly have shorthorizons.33 As one of ushas shown in priorwork, however, themyopic-activists claim does not follow from assuming that capital markets areoften ineﬃcient and that activists often have short investment horizons.34 To be sure, with ineﬃ- cient market pricingand short investor horizons, it is theoretically possible that activists might,in some cases,want companies to act in waysthat are not value maximizing in the long term.However, it is far from clear how often such cases arise.Furthermore, such cases mightbe outweighedby cases in which activists have a clear interest in seeking actions that arepositive both in the short term and the longterm.

Thus, the myopic-activists claim is, at best, a contestable proposition that might or might not bevalid and should be supported by evidence.

[if !vml]

[endif]

[if !supportLists]31. [endif]Jacobs, supra note 5, at 1657.Similarly, Chief Justice Strine (then Vice Chancellor Strine)accepted that the inﬂuence of short-term activists contributed to excessive risk- taking in the run-up to the ﬁnancial crisis. See Leo E. Strine,Jr., Why Excessive Risk-Taking Is NotUnexpected,N.Y. Times: Dealbook (Oct. 5, 2009, 1:30PM), http://dealbook. nytimes.com/2009/10/05/dealbook-dialogue-leo-strine/ (on ﬁle with the Columbia Law Review) (“[T]o theextent that the [2008 ﬁnancial] crisis is related to the relationship between stockholders and boards, the realconcern seems to be that boards were warmly receptive to investor calls forthem to pursue high returns through activities involving great risk and high leverage.”).

[if !supportLists]32. [endif]See, e.g., Bratton &Wachter,supra note 22, at 691–94 (stating that ﬁnancial markets are not eﬃcientand surveying related literature); Lipton & Rosenblum, QuinquennialElection, supra note 22, at 208–10 (arguing that stock market is generallyineﬃcient by referring to economic literature accepting stock market can anddoes misprice stocks).

[if !supportLists]33. [endif]See, e.g.,

Strine, Fundamental Question, supra note 5, at 8–11 (“[M]any activist investors

hold their stock for a very short period of time What is even more disturbing

than hedge fundturnover is the gerbil-like trading activity of the mutual fund industry ” (footnote omitted)).

[if !supportLists]34. [endif]Bebchuk, Myth,supra note 9, at 1660–76 (analyzing implications of assuming capital marketsare often ineﬃcient and activists oftenhave short investment horizons).

2015] HEDGE FUND ACTIVISM 1097

However, rather than backing up the myopic-activists claim with a study of theﬁnancial performance and stock prices of companies several years after anactivist intervention, opponents of activism have stressed that their belief inthe myopic-activists claim is strongly conﬁrmed by their own experience or theexperience of corporate leaders; Martin Lipton, for example, wrote that hisshort-termism concerns are based on “the decades of [his]ﬁrm’s experience in advisingcorporations.”35 Indeed,in a memorandum responding to this Article,WachtellLipton urged reli- ance on the “depth of real-world experience” ofcorporate leaders rather than on empirical evidence.36 Similarly, some other critics of this Articlefaulted us for questioning the views of “wise people,with loads of practi-cal experience,” and their “collective judgment that activistinterventions are detrimental,” and argued that “policymakers shouldweight the experience and expertise of knowledgeable people rather thantortured statistics.”37

In ourview,

however, arguments and policy decisions should not be based onanecdotes, reported individual experience, and felt intuitions concerninglong-term outcomes. Advocates of reliance on the reported impressions ofcorporate leaders would surely oppose policymakers’ relying on claims by leaders of activist hedge funds that activist interven- tions are beneﬁcial if theseclaims were based solely on the leaders’ professed experience. Furthermore,relying on self-reported impressions is especially unwarranted for a claim thatis clearly testable using objective and available data.

The myopic-activists claim asserts propositionsconcerning the ﬁnancial performance and stock returns of public ﬁrms. Dataabout such ﬁnancial performance and stock returnsare available and widely used by ﬁnancial economists. Using such dataenables subjecting claims about ﬁnancial performance and stock returnsto a rigorous and objectivetest.

Even if some business leadersgenuinely believe in the validityof the myopic-activistsclaim, policymakers and institutional investors should accept the claim asvalid only if it is supported by the data. Anempirical

[if !vml]

[endif]

[if !supportLists]35. [endif]Wachtell Memorandum, Bite theApple, supra note 10.

[if !supportLists]36. [endif]WachtellMemorandum, The Bebchuk Syllogism, supra note 14. In a subsequent memorandum,Wachtell Lipton attempted to argue that, although it did not rely on empirical evidencein advancing the myopic-activists claim,there are in fact twenty-seven studies listed in thememorandum that support this claim. Wachtell Memorandum, Empiricism andExperience, supra note 14. An analysis of these twenty-seven studies that we conducted,however, found that none of them providesevidence that is inconsistent with our ﬁndings.See Bebchuk et al., Still Running Away from the Evidence, supra note 15 (conductingthis analysis).

[if !supportLists]37. [endif]SeeYvan Allaire & François Dauphin, Inst.for Governance of Private & Pub. Orgs., “Activist” Hedge Funds: Creators of Lasting Wealth? What Do theEmpirical Studies Really Say? 4, 17 (2014), available athttp://igopp.org/wp-content/uploads/2014/07/ IGOPP_Article_Template2014_Activism_EN_v6.pdf

[hereinafter Allaire & Dauphin, Lasting Wealth?] (on ﬁle with the Columbia Law Review) (criticizing our study).

1098 COLUMBIA LAW REVIEW [Vol. 115:1085

examination is thus essential for assessing the myopic-activists claim.We provide such anexamination below.

[if !supportLists]II. [endif]THE UNIVERSE OF HEDGE FUND ACTIVISM

Our empirical examination of the myopic-activists

claim in this Article builds on the dataset, covering the period from 2001 to

2006, used in the ﬁrst comprehensive study of hedge fund activism published by

two of us, along with Frank Partnoy and Randall Thomas.38 This dataset was also used by the same

authors in subsequent work.39 Two of us, with Hyunseob Kim, extended the data to

include 2007 in a subse- quent study40 and presented an updated sample covering the period from 1994 through 2007 in a morerecent article focusing on the eﬀects of activism on plant productivity andcapital reallocation.41 Thethree of us, working with RobertJackson, have recentlyused this datasetto study predisclosure accumulations of stock by hedge fund activists.42 Thus, this database has proven fruitfulfor previous analysesof several issues,and in this Article, we extendthe use of this database to study the long-term eﬀects of hedge fund activism.

The dataset includes information drawn from disclosures required to beﬁled under Section 13(d), which are typically made on theSEC’s Schedule 13D.43 To begin, the dataset was constructed by ﬁrst identifying all of the investors that ﬁledSchedule 13Ds between 1994 and 2007. Then, based on the names and descriptionsof the ﬁlers required to be disclosed under Item 2 of Schedule 13D,44 ﬁler types such as banks, insurance

companies, mutual funds, and other nonactivist investors were

[if !vml]

[endif]

[if !supportLists]38. [endif]Brav et al., Hedge Fund Activism, supra note 17, at

1736–39 (discussing data used).

[if !supportLists]39. [endif]AlonBrav, WeiJiang, Frank Partnoy & Randall S. Thomas, The Returns to Hedge FundActivism, 64 Fin. Analysts J. 45, 46–47 (2008) [hereinafter Brav et al., TheReturns to Hedge Fund Activism] (discussing data used).

[if !supportLists]40. [endif]Brav et al., Hedge Fund Activism:A Review, supra note 11, at 196 (discussing data used).

[if !supportLists]41. [endif]Alon Brav, Wei Jiang & HyunseobKim, The Real Eﬀects of Hedge Fund Activism:Productivity, Asset Allocation, and Industry Concentration 5–7 (May 23, 2013)(unpublished manuscript), available athttp://www.columbia.edu/~wj2006/HF_RealEﬀects.pdf [hereinafter Brav et al., The Real Eﬀects of Hedge Fund Activism] (on ﬁle with theColumbia Law

Review) (discussing data used).

[if !supportLists]42. [endif]Lucian A.Bebchuk, AlonBrav, Robert J. JacksonJr. &Wei Jiang, Pre-Disclosure Accumulations by Activist Investors:Evidence andPolicy, 39 J. Corp. L.1, 7–14 (2013) [hereinafter Bebchuk et al., Pre-Disclosure Accumulations](discussing data used).

[if !supportLists]43. [endif]See SEC, Formof Schedule 13D, 17C.F.R. §240.13d-101 (2014) (requiring investors to ﬁle with SEC within ten days ofacquiring more than 5% of any class of securities of a publicly traded companyif they have interest in inﬂuencing company’s management under section 13(d) of1934 Securities Exchange Act).

[if !supportLists]44. [endif]See id. (requiringdescription of “name[,] principal business[,] [and] address of principal oﬃce”of ﬁler).

2015] HEDGE FUND ACTIVISM 1099

excluded

from our sample. In addition, based on the description of the purpose of the

investment required to be included in Item 4,45 events where the purpose of the investor

is to be involved in a bankruptcy or reorganization due to ﬁnancial distress,

the purpose of the ﬁler is to engage in merger- or acquisition-related risk

arbitrage, or the security in which the investment is made is not a common

share, were also excluded.

In addition, the dataset includes the results ofextensive news searches, conducted using the hedge fund and company names drawnfrom Schedule 13D. These searchesallow for the inclusion in the dataset of additional information notavailable in the Schedule 13Ds, such as thehedgefund’s motive and the targetcompany’s response.46 Due to these searches, the dataset includesinstances in which hedge funds maintainedan activist position in a large public company but owned less than 5% of thecompany’s stock (and, thus, were not required to ﬁle a Schedule 13D).47

In this Article, we use this datasetof activist interventions to provide the ﬁrstsystematic evidence on the long-term eﬀects of hedge fund activism.48 To this end, we supplement the dataset ofactivist ﬁlings with data on operating performance and stock returns of thecompanies tar-

[if !vml]

[endif]

[if !supportLists]45. [endif]See id.(requiring investors to disclose “[p]urpose of [t]ransaction,” including, interalia, any plans relating to acquisition of additional stock or corporate eventsuch as merger or acquisition).

[if !supportLists]46. [endif]The researchersputting together the dataset conducted extensive news searches in Factiva usingthe hedge fund and target company names as key words, plus a general searchusing various combinations of “hedge fund” and “activism” as key words. Theyfurther checked the completeness of the news search using the Thomson FinancialForm 13F database. For a detailed description of the construction of thisdatabase, see Brav et al., Hedge Fund Activism, supra note 17, at 1736–39.

[if !supportLists]47. [endif]Because of thesigniﬁcant amount of capital required to own 5% or more of the stock of a large public company,relying exclusively on Schedule 13D ﬁlings might excludecases in which outside investors maintained signiﬁcant holdingsof stock. Thus,our sample includes forty-twoevents in which the activist hedge fund did not ﬁle a Schedule 13D because itheld less than 5% of the stock of the targetcompany.For further discussion of this issue, see Brav et al., Hedge FundActivism, supra note 17, at 1738–39. For a more detailed description of theprocedure for assembling this dataset, see Brav et al., Hedge Fund Activism: A Review, supra note 11, at 193–95.

[if !supportLists]48. [endif]While puttingtogether a dataset such as the one we use requires signiﬁcant work, other teamsof researchers who wish to redo or reﬁne our analysis can do so following thedescription of the construction of the dataset in Brav et al., Hedge FundActivism, supra note 17, at 1736–39.Indeed, various teams of researchers have already put together, and used in their empirical work, large datasetsof activist interventions. For such studies issued recently, see, e.g., HadiyeAslan & PraveenKumar, TheProduct Market Eﬀects of Hedge Fund Activism 1–2 (n.d.) (unpublishedmanuscript) (on ﬁle with theColumbia Law Review) (describing authors’ dataset of activist interventions);Gantchev et al., supra note 28, at 10–12(same); Krishnan et al.,Top HedgeFunds and Shareholder Activism 11–12 (Vanderbilt University Law Sch. Law &Econ.Working Paper 15-9, 2015),available atwww.ssrn.com/abstract-2589992 (on ﬁle with the Columbia Law

Review)(same).

1100 COLUMBIA LAW REVIEW [Vol. 115:1085

geted by activist interventions.We use standard sources—Compustat foroperating performance data and Center for Research in Security Prices (CRSP)for stock return data. This enables us to study the long-term eﬀects ofactivist interventions on both operating performance and shareholder wealth.

In particular, we seek to study long-termresults during the ﬁve years following the activist intervention.We use data on the operating perfor-mance and stock returns of public companies through the end of 2012. Thus,because 2007 is the last year for which we have data on interven- tions, wehave data on the stock return and operating performance of public companiesduring the ﬁve years following each of the activist events in our dataset.In the analysis below, we trackeach company for up to ﬁve yearsand for as long as it remainspublic within that period.49

Table 1 below providessummary data on 2,040 Schedule13D ﬁlings by activist hedgefunds during the period from 1994 to 2007. AsTable1 shows, there has been an increase in the frequency of activist hedge fund ﬁlings over time. Furthermore,except for the ﬁrst two years, 1994 and 1995, the dataset includes more thanninety ﬁlings for each year in the fourteen-year period of our study.

TABLE 1: INCIDENCE OF 13D FILINGS BY ACTIVIST HEDGE FUNDS

[if !vml]

[endif]

Year Number of 13D Filings by Year Number of 13D Filings by

[endif][if !mso][endif]

Hedge Fund Activists Hedge Fund Activists

199410200196

1995372002134

1996992003127

19972122004148

19981612005237

19991182006269

20001202007272

Total 1994–757Total 2001–1,283

20002007

[if !mso]

[endif][if !mso & !vml][endif][if !vml]

[endif]The datasetdescribed in this section has two features that make it especially useful forthe study of our subject. First, it is comprehensive and includes all hedgefund activist interventions during a substantial period of time, thus avoiding the questions that could arise if one were to use a sample or otherwiseselect a subset of interventions. Second, with

[if !vml]

[endif]

[if !supportLists]49. [endif]The 2013 version of this Article was based on a datasetthat did not include the 2012 Compustat data, which were not available whenthis dataset was puttogether. Thus,the dataset that we now analyze includes data, which were initially missing, onthe operating performance of 2007 targets in their ﬁfth year of operation afterthe intervention.

2015] HEDGE FUND ACTIVISM 1101

over 2,000 interventions in the dataset, the large

number of observations facilitates statistical testing.

[if !supportLists]III. [endif]OPERATING PERFORMANCE

This Part presents our ﬁndings concerning the operating perfor- mance of ﬁrms targetedby activists during the ﬁve-yearperiod following the activistintervention. Part III.A describes the standard metrics of operatingperformance, Q andROA, used in ourstudy. Part III.B provides summarystatistics; inparticular, it showsthat the industry- adjusted Q andROA oftarget ﬁrms are on average higher during eachof the ﬁve years following the intervention than at the interventiontime. Part III.C presents a regression analysis of the evolution of operatingperformance during the ﬁve-year period following the intervention. Part

III.D extends the regression analysis to controlfor levels of past perfor- mance.Finally, PartIII.E discusses the interpretation of our ﬁndings; inparticular, we explainwhy the clear pattern of post-intervention improve- ments in long-term operatingperformance identiﬁed in this Part is unlikely to be driven by ﬁrms that areacquired or otherwise delisted be- fore the end of ﬁve years, or mere stock picking by hedge fund activists.

A. Metrics of Performance

The metric of operating performance to which we pay closest attention isTobin’s Q. Named after Nobel Laureate JamesTobin, Tobin’s Q is the metric most commonly used by ﬁnancialeconomists for studying the eﬀectiveness with which ﬁrmsoperate and serve their shareholders, and numerous peer-reviewed studies haveused this metric for assessing the eﬃciency of governance arrangements,ownership structures, or investor protection rules.50 Tobin’s Q, often referred to as “Q” for sim-plicity,is designed to reﬂect a company’ssuccess in turninga given book value of assets into market value accrued to investors.51 The design of Q

[if !vml]

[endif]

[if !supportLists]50. [endif]For studiesthat useTobin’s Q for analyzing theeﬃciency of governance arrangements, ownership structures, or investorprotection rules, see, e.g., Robert Daines, Does Delaware Law Improve FirmValue?, 62 J. Fin. Econ. 525, 527 (2001); Paul Gompers, Joy Ishii & AndrewMetrick, Corporate Governance and Equity Prices, 118 Q. J. Econ. 107, 109–10(2003) [hereinafter Gompers et al., Corporate Governance and Equity Prices]; LarryH.P. Lang & René M. Stulz,Tobin’s Q, Corporate Diversiﬁcation, andFirm Performance, 102 J. Pol. Econ. 1248, 1250 (1994); John J. McConnell &Henri Servaes, Additional Evidence on Equity Ownership and CorporateValue, 27 J. Fin. Econ. 595, 596 (1990);Randall Morck, Andrei Shleifer & RobertW.Vishny, Management Ownership and Market Valuation: An Empirical Analysis,20 J. Fin. Econ. 293, 294 (1988); David Yermack, Higher Market Valuation forFirms with a Small Board of Directors, 40 J. Fin. Econ. 185, 186–87 (1996).

[if !supportLists]51. [endif]Tobin’s Q is measured as the ratio of market value of equity and book valueof debt to the book value of equity and book value of debt. For a discussion of Tobin’s Q and

1102 COLUMBIA LAW REVIEW [Vol. 115:1085

enables

it to reﬂect the aggregate eﬀects through all channels that a given

arrangement, structure, or event has on the value accruing to investors.

We also useROA throughoutas another metric for operating perfor-mance.ROA refers to return onassets—the ratio of earnings before interest, taxes, depreciation, andamortization to the book value of assets—and it has been signiﬁcantly used byﬁnancial economists as a metric for operating performance.52 ROA reﬂects the earning power of a businessand thus the eﬀectiveness with which the ﬁrm uses assets of a given book valueto generate earnings for investors.We notethat activist interventions couldimprove performance and thereby shareholder value in ways other than throughincreasing the earnings of assets in place— such as through changing thecompany’s mix of assets or investments. Therefore, of the two metrics we use, Qis probably the one that is most informative regarding aﬁrm’s performance and prospects.53

[if !vml]

[endif]

its deﬁnition,

see Gary Smith, Tobin’s Q, in 8 The New Palgrave Dictionary of Economics 316, 316–17

(Steven N. Durlauf & Lawrence E. Blume eds., 2d ed. 2008).

[if !supportLists]52. [endif]For studies that use ROA as a metric of operating performance, see, e.g., Lucian

[if !supportLists]A. [endif]Bebchuk, AlmaCohen & CharlesC.Y. Wang, Learning and the Disappearing Association Between Governance and Returns, 108 J. Fin. Econ.323, 341 (2013); Gompers et al., Corporate Governance and Equity Prices, supranote 50.

[if !supportLists]53. [endif]A memorandum issued by WachtellLipton criticizes the analysis of this sectionon the grounds thatTobin’s Qand ROA are imperfect metrics for measuring operating performance. WachtellMemorandum, The Bebchuk Syllogism, supra note 14. While no metric of operatingperformance is viewed by ﬁnancial economists as perfect, we chose these twomethods because their use as operating performance metrics is standard amongﬁnancial economists working on corporate governance issues. Indeed, Wachtelldoes not advocate any particular alternative metric or argue that we failedto make the best possible choices in a worldwith imperfect metricsfor operating performance.

Interestingly, Wachtell Lipton seems to have no problem with studies thatrely onTobin’s Q to reachconclusions Wachtell Lipton favors; it commended as “impressive empiricalwork” a recent study by Cremers et al. thatrelies onTobin’s Q to argue thatstaggered boards are desirable. See Martin Lipton, Wachtell, Lipton, Rosen& Katz, New Empirical Studies Support Director-Centric Governance (Dec. 8,2013), available atwww.wlrk.com/webdocs/wlrknew/WLRKMemos/WLRK/WLRK.22995.13.pdf (on ﬁle with the Columbia Law

Review) (commending study by Cremers etal.); K.J. Martijn Cremers, LubomirP. Litov& Simone M. Sepe, Staggered Boards and FirmValue, Revisited 32–34(July 2014)(unpublished manuscript), available at http://ssrn.com/abstract=2364165 (on ﬁle with the Columbia Law Review) (usingTobin’s Qto assess desirability of staggered boards).

In criticizing the use of Q, Wachtell Lipton notes an unpublished paperby Philip Dybvig and Mitch Warachka. WachtellMemorandum, The BebchukSyllogism, supra note 14; see Philip H. Dybvig & MitchWarachka,Tobin’s Q Does Not MeasureFirm Performance: Theory, Empirics, and Alternatives 3(Jan. 7, 2015) (unpublished manuscript), available athttp://ssrn.com/abstract=1562444 (on ﬁle with the Columbia Law

Review) (criticizing standard use ofTobin’s Q). These authors discusspotential imperfections in the use ofTobin’sQ and suggest two alternative metrics of operating performance that, to the best of our knowledge, have not yet been used by any other

Because industries diﬀer signiﬁcantly in theirlevels of Q andROA, ﬁnancial economists commonly look at a ﬁrm’s industry-adjusted level of Q orROA—that is, the diﬀerence between theﬁrm’slevel and the industry’s mean or median level.54 A positive level of industry-adjusted Q orROA indicatesthat the ﬁrm outperforms its industry peers on this dimension, and, conversely, a negative levelindicates underperformance.

[if !supportLists]B. [endif]Operating Performance FollowingActivist Interventions

We begin by looking at the operating performance of

ﬁrms that experienced an activist intervention at diﬀerent points in time

relative to the time of the intervention. In particular, we examine operating

perfor- mance during the ﬁve-year period following the intervention.

Table 2 below reports the levels of Q andROA at such diﬀerent points in time. Thecolumn labeledt refers to performance in the year of the

intervention. Columns labeled (t+1), (t+2), and soforth represent years after the intervention.Weinitially report just raw ﬁgures that are not adjusted for theindustry. For eachyear, we report the average and the median level of the metricacross our sample.We note that Q is high- lyright skewed, which results in average Q exceeding medianQ, and thatROA is highlyleft skewed, which results in averageROA belowmedianROA.

The evidence inTable2 does not support the patterns feared by those advancing themyopic-activists claim—that is, an initial spike in operating performancefollowed by a decline to below intervention-year levels. Panel A shows that, focusingon average Q as a metric of operatingperformance, average Q exceeds its event year level at(t+3), (t+4), and (t+5) and reaches its highest levelat (t+5).55 Panel B in turn indicates that

[if !vml]

[endif]

empirical study

that has been published or made available on SSRN since the Dybvig– Warachka

paper was ﬁrst placed on SSRN in 2010.

[if !supportLists]54. [endif]For a well-known studyusing industry-adjusted performance, see Gompers et al.,Corporate Governance and Equity Prices,supra note 50, at 126.

[if !supportLists]55. [endif]InTable 2, the pattern of improvement issharper when one examines averages rather than medians. Wachtell Liptonincorrectly criticizes us for failing to stress the diﬀerence inTable 2 between results using means andresults using medians. Wachtell Memorandum, The Bebchuk Syllogism, supra note14 (noting that “averages can be skewed by extremeresults”). However,Table 2 merely presentssummary statistics of “raw”levels, and we do not stress or rely on any of its resultsfor our conclusions. As we explainbelow,the standard approach by ﬁnancial economists is to control by industry.In our subsequentTable 3, whichpresents summary statistics using industry-adjusted levels, the results are infact similar using both means and medians; in both cases, industry-adjustedoperating performance, measured by eitherTobin’sQ or ROA, is higher in each of the ﬁve years following the interventionyear than during the interventionyear. Furthermore,and most importantly, our conclusions are primarily based on a regression analysis, not on the summarystatistics of Tables 2 and 3, and our regression analysis(see infra Tables 4 and

5) uses standard methods for avoiding excessive inﬂuence of outlier

observations.

TABLE 2: OPERATING PERFORMANCE OVER TIME— NO INDUSTRY ADJUSTMENT

ThisTable reports the levelsof Q and ROA of target companies from the targeting(t) to ﬁve years afterwards (t+5). Both variables are constructed using data fromCompustat. Panel A reports the average, the standarderror, the median, and the number of observa- tions for the Q oftarget ﬁrms at each point of time. Q is deﬁned as the sum of the market valueof equity and book value of debt (including both short-term and long-termdebt), scaled by the sum of the book value of equity and book value of debt.Panel B reports the same summary statistics for ROA, where ROA is deﬁned as aﬁrm’s EBITDA (earnings before interests,taxes, depreciation, and amortization) scaled by the average value of theﬁrm’s assets in the current and previousyear. For both Q and ROA, if the value forthe lagged assets is missing, the denominator becomes the current year assets.Both variables are recorded at the end of the company’s ﬁscalyear and are winsorized at the 1% extreme

in the full Compustat sample.56

Panel A: Q

t: Event Yeart+1t+2t+3t+4t+5

Average2.0752.0112.0352.0872.1302.150

Standard Error0.0570.0580.0650.0710.0770.082

Median1.3741.3331.3171.3631.3471.412

Observations1,6111,3841,2061,076942831

Panel

B: ROA

t: Event Yeart+1t+2t+3t+4t+5

Average0.0260.0350.0390.0510.0530.057

Standard Error0.0050.0050.0060.0060.0070.007

Median0.0700.0750.0730.0840.0910.091

Observations1,5841,3631,1871,055926815

averageROA also exceeds its event yearlevel at(t+3), (t+4), and (t+5) and reaches its highest level at (t+5).

Note that, like peer companies of similar size and performance, many of the target ﬁrms stop being publiccompanies during the ﬁve-yearperiod that we examine, and data about their operating performance are nolonger available on Compustat after their delisting. Inparticular, within ﬁve years,targets of activistinterventions have “attrition” rates of about 49%,with most of the disappearances from Compustat due to acquisitions. When wecompare the target ﬁrms to peer companies matched by size and performance, weﬁnd that the matched ﬁrms also have a high attrition rate of 42% within ﬁveyears; most disappearances from Compustat are again due to acquisitions. While we focus on the

[if !vml]

[endif]

[if !supportLists]56. [endif]As is standard, in order to reduce the inﬂuence ofoutliers, our analysis of operating performance winsorizes—that is, limits extreme values in—operating performance results.We winsorize at the 1% and 99% extremes,using the full sample of all Compustatﬁrms from 1991 to 2012 to deﬁne extremes.

operating

performance of the companies that remain public and for which data on Compustat

are available, we explain in Part III.E.2 that doing so is unlikely to result

in an overstatement of targets’ operating performance following the

intervention.

As noted in Part III.A, researchers commonly basetheir analyses not on “raw” levels of Q andROAbut rather on industry-adjusted levels; performance is best assessed incomparison to the company’s industry peers.57 After identifying for each company theﬁrms with the same SIC three-digit industry classiﬁcation (SIC3), we deﬁne theindustry-adjusted level of Q andROA asequal to the diﬀerence between the raw Q or rawROA level and the industry average Q or ROA.58 Table 3 below presents the evolution of average industry-adjusted Q andROA over time among the targets of hedge fund activists. Asbefore, we report levels for the in- tervention year and each of the ﬁve years following the intervention year.

Long term

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