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Now it's won, what does Sherborne want from Electra?
Sherborne Investors won its battle for seats at Electra's board without telling investors what it wanted to do. Now we will find out.
Roger Yates, the chair of Electra – the flagship fund in the private equity sector – has resigned and now we are all left wondering what Sherborne’s grand strategy for adding value will be. This is because its team refused to divulge any details when canvassing for votes.
First, it is important to remember that Sherborne does not have control of the board. Geoffrey Cullinan, who Sherborne tried to oust last year, has now joined Roger Yates in resigning from the board and will be replaced by Coutts non-executive director Francesca Barnes. But Sherborne will still only have two of seven votes.
I would expect the other members of the board to strongly resist any proposals they thought were not in shareholders’ best interests. Sherborne, though, may argue that, with 53% of shareholders backing their agenda – whatever that may be – the other directors should take their lead from them.
Elsewhere, Alliance Trust (ATST ) finds itself in a similar situation, whereby rebel investor Elliott Advisors’ representatives on Alliance’s board can easily be outvoted by the other directors. Alliance Trust announced a series of reforms about a month ago aimed at streamlining its business, but I am not sure whether these were as dramatic as Elliott Advisors would have liked.
What can it do?
What might Sherborne want to do? Sherborne’s main argument seems to have been that the old board and the manager are too cosy. Its team wants to increase the level of oversight and governance.
Without access to Electra’s board minutes, though, it is hard to judge exactly what Sherborne thinks was lacking in this regard. An expanded board, though, would not make a difference to Electra’s performance. More crucially, greater interference in the management of the portfolio by the board would increase governance problems.
The new board could try to impose another fee cut on the managers. At least this would have the benefit of feeding through into enhanced future returns for shareholders.
Sherborne, though, seems to imply it has some other tricks up its sleeve for increasing shareholder value. I am keen to know what these might be.
For Electra’s shareholders, who have had a remarkable run over the past few years, having made six times their money from the lows of March 2009, the biggest danger must be that the new Electra board antagonises the management team to a point that precipitates them walking away.
That might sound like an extreme scenario, but, given their track record, I cannot see them having much trouble raising cash for a new fund, which, unfortunately for the closed-end fund sector, need not necessarily be listed – presumably leaving ‘old’ Electra in run-off mode.
Assuming, though, that we do not get to that nuclear option, what is the long-term plan?
Sherborne, as I understand it, is not supposed to be around forever. It had a job to do and, once its job is done, it needs to move onto the next project or hand back capital to its shareholders.
How is Sherborne going to extricate itself from Electra, especially since, after the mandatory conversion of Electra’s loan stock, it will end up with more than a 30% stake in the company? (This should not trigger a bid provided that Sherborne does not add to its stake).
Sherborne cannot be seen to be engineering an exit just for itself. Presumably, then, there will have to be a cash exit for all shareholders, perhaps by creating a realisation pool. This will shrink the fund, with all the implications of decreased liquidity and higher ongoing charges that come with this scenario. This runs the risk of undoing any good it might have achieved in the meantime.
By contrast, when we consider the other high profile comparison, Elliott Advisors will be able to take advantage of Alliance’s new aggressive buyback policy – aimed at keeping its discount in single figures.
I have been against this whole situation with Electra from the start. I did not think Electra needed fixing and I am worried that the flagship fund in the private equity sector will be damaged as a result, perhaps irreparably. I do not like that Sherborne won the day by sheer weight of money rather than on the strength of its arguments either. After all – if we exclude Sherborne’s holding – 73% of Electra’s other shareholders voted against the proposals.
I am also worried that other activist investors will be tempted to make indiscriminate attacks on the closed-end fund sector on the back of the ‘success’ of Elliott Advisors and Sherborne. Looking at the performance of their investments, though, I doubt Elliott Advisors has made much, if anything, from its investment in Alliance Trust and, as I have pointed out before, Sherborne’s shareholders failed to capture most of Electra’s impressive recent performance (achieved on the back of the manager’s efforts, not Sherborne’s).
So we will have to be patient and wait to see how things play out from here. I, though, am not optimistic.
James Carthew is a director at Marten & Co. The views expressed in this article are his and do not constitute investment advice.
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by Gavin Lumsden on Oct 26, 2016 at 14:01