Global Investors Offered Connected Risk Opportunity...margins and repair the target rms balance...

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Global Investors Offered Connected Risk Opportunity

Thursday 26th July 2018

Global Investors Offered Connected Risk Opportunity

Global Investors Offered Connected Risk Opportunity.High-profile funds should factor in systemic contagion when evaluating investees.

An investor writes to a company urging it to make strategic changes, divest poorly-performing units or release the mountain of cash it is hoarding. The company steadfastly refuses. The investor goes public. The battle ensues.

It could be one of countless

recent activist investor

campaigns. And it could be

the hoary story of, principally,

US funds scouring Europe for

undervalued companies.

The most high-profile of these,

the blockbuster proxy tussle

waged by Nelson Peltz’s Trian

Fund Management against

consumer products behemoth

Proctor & Gamble (P&G),

ended with the activist gaining

the board seat he coveted,

despite months of stubborn

resistance from P&G.

Then there was Elliott

Management, with assets under

management of $39 billion

the world’s biggest activist

hedge fund and by far the most

successful and most active.

From mining to chemicals

to generic drugs, under its

founder and president, Paul

Singer, Elliott was everywhere

last year.

From having Akzo Nobel and

BHP Billiton in its crosshairs, to

ousting former Arconic CEO

Klaus Kleinfeld from the board

of the aerospace engineering

group, Elliott is one of the

most feared activists, taking on

companies - and even countries.

With a 13.4% annual rate of

return over its 40-year history

(unrivalled by any other hedge

fund), in the past five years

alone Elliott has launched

activist campaigns at more

than 50 companies across 12

countries.

According to data from Lazard,

the investment bank, Elliott

triggered eight activist investor

campaigns in the first half of last

year, double any other fund.

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Fellow US funds, such as

Dan Loeb’s Third Point, Keith

Meister’s Corvex Management

and Scott Ferguson’s Sachem

Head all made European firms

a target, unleashing $9.9 billion

on new activist campaigns, up

from $2 billion in 2016.

Corvex built stakes in French

yogurt maker Danone and

Swiss chemical firm Clariant

AG in 2017. Also in Switzerland,

Third Point revealed a $3.5

billion stake in Nestle SA,

Loeb’s biggest-ever bet.

Last year was one underscored

by shareholder activist

campaigns because economic

uncertainty across the globe

exposed weaker management

and pushed shareholders to

demand changes. Typical

activist targets are companies

that have suffered declines in

share price, return on equity,

earnings or cash generation,

or those with rising expenses,

according to Alvarez & Marsal,

a restructuring firm.

Globally, by the end of the

third quarter of 2017, activist

funds invested $45 billion,

almost double the $24.7 billion

they poured in during the

preceding year.

Board Games-------------------------------

The classic playbook to make

money for funds’ shareholders

is: buy undervalued, struggling

or distressed concerns;

ferociously cut costs by

stripping out management

and administrative layers to lift

margins and repair the target

firm’s balance sheet; then try

to sell it at a premium. The old

guard, such as the outrageously

extrovert and equally successful

Carl Icahn, have been doing this

since the early 1980s.

But by which criteria do activist

funds gauge their prey? How

are their targets screened and

selected, when are investment

assessments made and what

manoeuvres performed to buy

into – then transform – investee

companies?

Russell Group approached

a number of the world’s

leading activist investor funds

to discover their methods,

business and investment

philosophy and how they judge

who gets their much-coveted

capital.

We also sought counsel from

early (seed and Series A) and

later-stage ‘active’ investors to

discern patterns, similarities,

missed opportunities in the

investment screening process.

Overall, the funds Russell Group

spoke to appear to maintain a

consensus on essential criteria

for investment. These include:

- The company is scalable

- The company is attractive to

potential acquirers

- The potential exit provides the

return the investor needs

- An excellent management team

- The product or service is

validated by customers

- The investee is in a large

Global Investors Offered Connected Risk Opportunity | 03

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market and pursues a strong

go-to-market strategy

- The opportunity fits the

investor’s personal

preferences

One striking feature that

emerged from our research

was that none of the firms

canvassed considers supply

chain vulnerability or the

existential threat of ‘Connected

Risk’ a factor to consider when

assessing a prospective - or

existing - investee.

Russell Group defines

Connected Risk as the

systemic exposure of

commercial organisations, their

partners, suppliers and clients

to cumulative and cascading

financial, operational and

reputational vulnerabilities.

It is caused by an inherent

weakness in the inter-

connected architecture of

today’s business-to-business

relationships

Organisations increasing digital

exposure, enables a single

negative event to exponentially

spread disruption, paralysis

and wreak severe economic

damage both within and

between organisations.

The key drivers for Connected

Risk are the ways in which

political, environmental, supply

chain, cyber and credit risks

combine to cause financial,

operational and reputational

loss.

In an increasingly connected

world, commercial

organisations, their partners,

suppliers and clients become

more tightly bound within a

business network, in which

traditional business boundaries

become blurred. This exposes

all organisations within that

network not just to increasing

connected risk, but increasing

opportunities which are also

connected. What this means

is that business today, faces

increasing unknown risk and

missed opportunity, as there is

a layer in strategy which misses

the increasing connectivity

between opportunity and

risk. Given investors manage

portfolios of investments,

then the same should be true

for these investments, and

investors should evaluate their

portfolios not just for ways

of evaluating connected risk,

but also inherent connected

opportunities. This should

present opportunities for risk

advisory services, insurance-

backed securities and further

investment.

In the heady world of major-

league activist investment,

with its attendant stratospheric

stakes, bruising boardroom

bash-ups and share price

gyrations, shouldn’t Connected

Risk be an integral part of any

fund’s assessment philosophy?

Elliott-ness-------------------------------

As published originally in

Bloomberg, “Elliott is the

standard bearer for activism in

Europe importing the tactics we

have seen from the U.S.,” says

Christopher Sullivan, a partner

and M&A specialist at law firm

Clifford Chance in London.

These tactics can be rather

novel, to say the least. A month

after Kleinfeld resigned from

Arconic, according to proxy

contest advisers’ estimates

reported in Fortune, Elliott

spent $3 million sending

rechargeable video players

to tens of thousands of large

retail shareholders. Slightly

smaller than an iPad, the gifts

were loaded with an attack ad

alleging Kleinfeld had ‘the worst

track record of any CEO in the

S&P 500 over his tenure’. The

message played automatically

when investors opened the

package.


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A pioneer in convertible

arbitrage, a low-risk strategy

that involves buying a

company’s convertible bonds

while shorting its common

stock, Elliott’s Paul Singer is

best known for investing in

distressed securities.

Singer, 73, is a lawyer by

training and prominent donor

to the U.S. Republican Party.

Elliott - Singer’s middle name

- invests in a range of credit,

commodities, property and

various arbitrage strategies

when equity opportunities

are thin. When Elliott briefly

opened its main fund to accept

new investments last May, it

raised $5bn in 24 hours.

In four decades, Elliott has had

only had 12 losing quarters,

and only two down years. In

two years - 2007 and 2009 -

the fund returned more than

30 per cent.

With a staff of 430 people,

including 160 in its New York

headquarters and affiliated

offices in London, Hong Kong

and Tokyo, Elliott sweats the

small stuff when assessing a

potential investee - well before

any warning-shot 13D filing

with the US Securities and

Exchange Commission.

For any given investment,

Elliott conducts extensive

research to better understand

the target company’s

operations and strategy,

including working with

respected technology and

management consultants

to examine the company’s

industry and position within its

markets.

Elliott works with engineers

to examine and assess the

capabilities and competitive

positioning of the company’s

products and technologies and

has on its broader consulting

team senior technology

executives to advise on higher-

level corporate considerations.

In July 2014, The Wall Street

Journal reported that Elliott

had taken a stake of more

than $1 billion in EMC,

the U.S. data storage and

enterprise computing giant,

and was pushing for strategic

alternatives to the company’s

stand-alone path. After 14

months of talks between Elliott

and EMC’s management and

board, EMC announced a $67

billion merger with Dell in

October 2015 in what is still to

date the largest merger in tech

history.

With EMC, Elliott spent months

getting to know the company

by interviewing 700 customers

before launching a campaign

for EMC to pursue M&A

opportunities. For such major

deals, Elliott deploys a number

of tried-and-tested techniques

to manoeuvre itself into a

position where it can exert the

most potent influence.

Diligence Due-------------------------------

Jon Pollock, Co-Chief

Investment Officer and Equity

Partner at Elliott, says ‘we seek

to hedge out as much market

risk as possible leaving us

exposed to the idiosyncratic

risks of a given situation. These

include both the risks we have

identified through our due

diligence process and those

that we either did not or could

not identify.’

The diligence effort at Elliott

centres first and foremost

on value. Each prospective

investment must have a clear

path to create value. This means

that there must be value in

the business that is currently

being obscured due to poor

execution, corporate structure

or some other reason, and that

the value is sufficient to warrant

the expenditure of time and

resources

As Pollock explains: ‘The local

legal, regulatory and cultural

frameworks are important

considerations in calibrating

our chances of success. Does

the company benefit from

a significant “home court”

legal advantage? Will local

shareholders support change or

does management benefit from

a standing practice of domestic

institutional and retail support?

‘As with all of our investments,

we evaluate it using the same

consistent application of our

framework: 1) is there value in

the opportunity? 2) is there


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a pathway for us to create

the change we believe is

needed? and 3) is there a

case to be made to our fellow

shareholders that the change

is needed? By taking our time

and devoting the necessary

resources to being diligent, we

hope to get the analysis right.’

Appearing on Bloomberg TV’s

‘The David Rubenstein Show:

Peer-to-Peer Conversations’

last June, Singer told

Rubenstein that Elliott’s ‘style’

as a team is doing the work as

thoroughly as it can.

‘To develop the thesis’, Singer

told Rubenstein, co-founder

and executive chairman of

The Carlyle Group, ‘to assess

whether we think there really

is an action of a series of

actions that can be taken to

eliminate an underperformance

or ameliorate a situation.

Then contacting a company

privately, testing with

consultants or bankers -

testing our ideas. Then trying

to generate a dialogue.

Sometimes you find you’re

knocking on an open door:

there’s a founder or a

management team that’s

ready to sell out to go on to

something else.’

Despite not factoring in

Connected Risk per se, Elliott’s

Singer does place great

emphasis on risk awareness,

mitigation and hedging. To

Institutional Investor alpha

magazine, he revealed: ‘I felt –

and it was part of my strategy

then and is part of my strategy

now – that being risk managed

at all times and hedged at

all times is the only way to

actually control risks. Constant

scepticism and an existential

sort of humility are very useful

in risk control.’

You have to be in risk

management mode all the

time, not just when you might

be particularly nervous,

because it is impossible

to time the transitions of

markets to crisis conditions.

And as your firm grows and

you and your organisation

go through changes in your

life circumstances, you need

to keep constant the energy,

humility and intelligence

that built your track

record. Coasting in money

management does not turn out

well.’

Chink in the Supply Chain-------------------------------

Salesforce, the cloud-based

software company co-founded

by Marc Benioff which

generates annual revenues of

$8.4 billion, operates a venture

capital arm called Salesforce

Ventures. It has allocated $100

million to invest in European

start-ups to fuel cloud

innovation in the region.

In the UK, Salesforce

Ventures’ portfolio companies

include Onfido, Qubit and

NewVoiceMedia, among others.

According to CB Insights,

Salesforce Ventures is the most

active corporate venture fund in

the UK and Europe.

Alex Kayyal, Europe Head at

Salesforce Ventures, says since

2009 it has invested in and

helped accelerate the growth

of over 250 technology start-

ups. Last year, Salesforce

Ventures announced four

specific funds totalling over

$250 million around AI, cloud

consulting start-ups and social

impact ventures. Kayyal says

with cloud-related enterprise

spending set to rise to $216

billion by 2022, now is the

perfect time for attracting

investment.


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He explains: ‘We look for

businesses that can scale

rapidly and disrupt incumbent

markets. In the world of

software, physical supply

chain is less relevant. We do

pay great attention however

to what technologies a

business leverages as part of

its offering, and where their

core IP is. Trust, security and

reliability are critical factors

that we consider.’

Early-Bird Discount-------------------------------

Andy McLoughlin is a Partner

at Uncork Capital in San

Francisco. Uncork (formerly

SoftTech VC) describes itself as

a ‘seed-stage’ venture capital

firm. It has $300 million under

management and is currently

investing from two funds: a

$100M ‘Seed’ fund and a $50M

‘Opportunity’ fund earmarked

for larger investments in

mature, existing portfolio

companies.

Prior to joining Uncork in 2015,

McLoughlin was an active angel

investor. Among the 40+ start-

ups in which he invested are

business software platforms such

as Intercom, Pipedrive, Bugsnag,

Apiary (acquired by Oracle),

and Buffer, as well as consumer

products including Secret

Escapes, Calm, and Postmates,

where he was each company’s

first investor.

In 2006, he co-founded Huddle,

a London-headquartered

enterprise collaboration platform,

which became one of Europe’s

most awarded and well-known

technology start-ups, raising

more than $80M in venture

funding before its acquisition in

2017. Over the years, McLoughlin

led technology, product,

marketing and strategy and

oversaw Huddle’s US expansion.

McLoughlin was awarded an

OBE in the 2015 Queen’s birthday

honours list for services to the UK

technology industry.

He is sanguine about how venture

investors decide on whom to

invest. ‘Depending on the stage

of the company – is it just two

people working in a garage or a

300-person corporate outfit - the

type of investee and the type of

process we would go through are

very different.’

On the West coast of the US,

a seed round is usually in the

region of $3 million. Uncork

writes cheques of between

$750,000 - $1.5 million for

technology companies

building business software,

marketplaces, hardware

and consumer services

spaces, as well as frontier

technologies including

robotics, autonomous vehicles

and space.

Uncork’s investment criteria is

couched in rather idiosyncratic

terms. As McLoughlin explains:

‘We look for the ‘three asses’: a

smart-ass team; with a kick-ass

product; in a big-ass market!

We’re looking for people with

some kind of competitive

advantage, be it academic

qualifications, industry experience,

or some other insight that gives

them an advantage over the

reams of other people that are

doing something similar.’

‘We’re looking for companies who

have a product in the market,

the beginnings of some traction

that we can review, which could

be a couple of customers or a

handful of users’, McLoughlin

adds. ‘What we do is so early

that the requirements are kind of

ephemeral. All we really have to

go on is the quality of the team,


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the quality of the early product

and the perceived size of the

opportunity.

‘A big part of the work that

we do is trying to understand

the character and the calibre

of the people we’re investing

in. Because we’re investing so

early sometimes the business

we invest in is not the eventual

business. The entrepreneurs may

realise that what they’re working

on needs a slight tweak in terms

of going to market or that the

market is not there so they’re

going to work on something

else.’

And as for connected and supply

chain risk? ‘It doesn’t factor

into the evaluation process, but

probably factors more into the

go/no-go process. We play

a lot of attention to ‘platform

risk’. We’re looking for those

that can be strong, independent

companies without technical or

commercial reliance on another

company.’

Heavy Lyfting-------------------------------

Navin Chaddha leads Mayfield,

a top-tier Silicon Valley venture

capital firm with $2.7 billion

under management and a 48-

year history of investing. The

firm invests primarily in early-

stage technology companies

based in the U.S. and select

non-U.S., globally-focused

companies, primarily domiciled

in India, Israel, and China,

with selective investments in

companies at the later stage.

Since its founding in 1969,

Mayfield has invested in over

530 ‘innovative’ companies, 116

of which have gone public, and

over 200 have been acquired.

Some notable names Lyft, the

global ride-sharing rival of

Uber, Intuitive Surgical, Qunar,

SolarCity (now part of Tesla)

and TIBCO Software.

Hailed as a Young Global

Leader by the World Economic

Forum, Chaddha has ranked

on the Forbes Midas List of

Top 100 Tech Investors nine

times, and on the CB Insights/

New York Times list of top

venture capitalists. He was

also one of the earliest Silicon

Valley investors to leverage the

promise of tech in India.

As Managing Director at

Mayfield, Chaddha puts people

at the centre of his investment

assessment process. As

he explains: ‘As a firm with

a people-first philosophy

of investing and focus on


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investing at the early stage of

companies, while we evaluate

the technology and market

opportunity, we spend a lot

of time getting to know the

team and understanding

their motivation and desire to

change the world. We firmly

believe people make products

and products don’t build

people. In short, people are

everything.’

In terms of risk parameters

during the screening process,

Chaddha enumerates five core

criteria:

- Size of market for their

product or solution; Is their

offering a pain-killer for

their potential customers;

- Are they able to attract great

talent and surround

themselves with excellence;

- How differentiated is their

technology;

- Do they have a culture of

focus and nimbleness;

- Are they willing to run a

marathon - because building a

company is like that.

When it comes to considering

the strength, security and

reliability of a target company’s

supply chain (its reliability,

contingency/back-up suppliers,

financial/credit probity),

Chaddha says ‘not really as

we invest in the earliest stages

of a company where it’s a bet

primarily on the people who

have paper and pencil ideas.’

Since most of his investees

are at an inchoate stage of

development, such connected

risk factors are not critical to

the evaluation process.

The absence of a perception of

connected risk by investment

funds during the evaluation

of prospective - and current

- investee firms is clearly a

missed opportunity the former

would do well to reconsider.


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Russell Group is a leading risk management software and service company that provides a truly integrated risk management platform for corporate risk managers and (re)insurance clients operating in an increasingly connected world.

Connected risk refers to the growth in companies which are increasingly integrating across industrial sectors and geographies, and creating greater levels of risk. This exposes corporates and (re)insurers to a broader range of inter-related perils, which requires a risk management approach built upon deep business intelligence and analytics.

Russell through its trusted ALPS solution enables clients whether they are risk managers or underwriters to quantify exposure, manage risk and deliver superior return on equity.

If you would like to learn more about Russell Group Limited and its risk management solutions, please contact [email protected] or visit www.russell.co.uk/contactus

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Global Investors Offered Connected Risk Opportunity...margins and repair the target rms balance...

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Transcript of Global Investors Offered Connected Risk Opportunity...margins and repair the target rms balance...