Monday, November 12, 2007

Road Shows and Hedge Funds

I had the pleasure last week of attending a meeting of The Conference Board’s Global Council of Investor Relations Executives. It is an organization I used to belong to when I was on the corporate side of the equation and I think they do a good job of focusing on areas of concern for large cap corporations. The meetings are a great opportunity to hear what your peers are working on, network and listen to some interesting presentations. It is in this latter role that I was attending, having arranged to have Christopher Middleton, CEO of Atlantic Equities, discuss the merits of European roadshows for U.S. companies. Atlantic Equities is the only European based sell side shop covering U.S. equities exclusively and as a result each year they also wind up arranging a fair number of European roadshows for U.S. companies. Chris did a great job laying out the rationale for going to Europe, and every large and mid cap U. S. company should give thought to visiting with European investors as a way of broadening their shareholder base and getting away from the hedge fund merry go round that so many U.S. roadshows have turned into. (Disclosure note: the author has a relationship with Atlantic Equities and therefore is not an entirely disinterested observer.)

All of this prompted me to start thinking about why it has become such a fight to see long only investors on U. S. roadshows lately. After a moderate amount of thought (you don’t want to overdo these things), my thesis is as follows: 1. The funding for sell side research has changed, 2. You (the company) are not the client of the sell side, and 3. Follow the money.

1. The funding for sell side research has changed. It used to be that investment banking paid for much of the budget of sell side research departments. When that was happening, there was every incentive for the research analyst to maintain a good relationship with the potential investment banking client and to help facilitate meetings with the type of investors the company wants to see – long only, low turnover investors. If it didn’t result in many shares being bought or sold, well, investment banking was picking up the tab, and commission structures were higher then. Of course, Elliot Spitzer has changed all that and eliminated the inherent conflicts of interest. He’s also eliminated a strong incentive for sell side analysts to help you see the kind of investors you want to see.

2. The Company is not the client of the sell side. I think corporate IR officers often lose sight of this one. The sell side has placed more emphasis than ever before on getting management access for the buy side. The major sell side shops have entire departments that can set up road shows for you, soup to nuts, on very short notice, with only a phone call from you. As a result it feels as if you are their client. After all, they’re doing all this nice stuff for you and eliminating a major administrative headache. But you, the company, are not the client, but merely a means to an end. That end is commission flow, coming from the true client, the buy side.

3. Follow the money. Today, sell side research budgets are heavily dependant upon commission flow. And because commission rates keep falling, the most important clients of the sell side are the ones that trade the most – the hedge funds. Think about it this way – if you are visiting a city for one day, you have at most, 6 one hour time slots to see investors. When the analyst and the sales desk start to talk about which investors to see, their interest is in making their 6 biggest commission generating clients happy. You might have a top 20 investor in the city that has held the stock forever, but if they don’t generate a lot of commissions they won’t be getting a call from the sell side unless you insist upon it.

So what’s a poor investor relations officer to do? There are some things that a company can do to that can make things work for both sides. First, know the investors you clearly want to see on any give roadshow, especially if they are existing shareholders, and make your desires known at the outset. Second, recognize that the sell side will have some clients they will want you to see, and reach a happy medium. Remember, the sell side is not going to the trouble to arrange the roadshow for you without the expectation of some form of compensation, which is coming from the buy side. Third, pray that the hedge funds you do agree to see do not include the obnoxious, 30 year old who thinks he can tell your CEO how run the company.

Or, alternatively, you can go to Europe, where there are far fewer hedge funds. (For more on this topic, see my article in the September, 2007 National Investor Relations Institute Update magazine entitled “Things to Consider When Contemplating a European Investor Relations Roadshow”.)