In Defense of Activists

Get used to activists.

Yesterday on RealMoney, both Barry Ritholtz and Bob Marcin questioned the motives of activists and suggested perhaps that "the activist movement is over."

There are certainly times when you want to avoid piggybacking on an activist fund's position, but I disagree with the statement that the activist movement is over. Really, what is an activist but a deep value investor who decides he knows more than management and tries to force management to create value where he thinks it is hidden?

Right now I'm tracking approximately 100 activist situations across 27 activist hedge funds. Approximately 30 of the positions are down from the activists' price (as can be seen in 13D filings) and about 70 are higher.

In the cases in which activists are down, the funds often average down their price (because they are deep-value players and are happy to buy assets even cheaper) and this can be seen in follow-on 13D filings. One example is BKF Capital (BKF - commentary - Cramer's Take), where Cannell began accumulating its stake in the high $20s and then averaged down to as low as the $15 range. The stock is currently at $21.33. Activists are typically mid- to long-term players, because there are regulatory considerations around selling their shares once they make a 13D or 13G filing.

Activists typically employ one or more of the following strategies to affect their vision on a stock:

• Sell off assets that are undervalued on the balance sheet. A great example is Ed Lampert's foray into real estate investing when he bought the bankrupt Kmart, which has of course become Sears Holdings (SHLD - commentary - Cramer's Take).

• Get rid of underperforming management. For instance, when Shamrock became involved in Disney (DIS - commentary - Cramer's Take), its main goal was the removal of Michael Eisner. It felt he was squandering the assets of the company and not unlocking value in his later years as CEO. In TheStreet.com Internet Review I've written about another company that Shamrock is an activist on, which is up over 20% since their last 13D filing a month ago.

• Give cash back to shareholders. This was a common form of activism in the 2002-03 period when many former dot-com highfliers were trading below cash levels. Carl Icahn believes Time Warner (TWX - commentary - Cramer's Take) should take on debt in order to give back cash to shareholders.

• Push the company to put itself up for sale. Activists can use proxy fights to get representatives on the board and start a process for selling the company. Crescendo's activist efforts in Computer Horizons (CHRZ - commentary - Cramer's Take) is an example of an activist fund winning its proxy fights and watching the stock go from the high $2s to the low $4s.

These are just a few of the techniques activist funds and shareholders use.

The argument against activism, from a company's perspective, is that the activists are there just for the short term and will leave long-term shareholders stuck with the ramifications of the activist efforts. The flip side is that if the fund is correct and successful, the stock should go up accordingly, benefiting the company and its shareholders accordingly.

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James Altucher is a managing partner at Formula Capital, an alternative asset management firm that runs several quantitative-based hedge funds as well as a fund of hedge funds. He is also the author of Trade Like a Hedge Fund and Trade Like Warren Buffett. At the time of publication, neither Altucher nor his fund had a position in any of the securities mentioned in this column, although positions may change at any time. Under no circumstances does the information in this column represent a recommendation to buy or sell stocks. Altucher appreciates your feedback; click here to send him an email.

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