Lost value
18 Nov 2020
Matt Ruoss of SCORPEO explains what value FTSE 100 investors could be missing on corporate action elections
Image: iamchamp/adobe.stock.com
For every action, there is an equal and opposite reaction. However, for the vast majority of asset managers who opt to not make any decisions on voluntary corporate actions, inaction simply leads to lost value.
Every year, there are dozens of voluntary corporate actions, where shareholders are required to make an election. In the case of scrip dividends, this means choosing between receiving a payment in cash or stock. For rights issues, this means opting to purchase more shares.
If a shareholder doesn’t actively make an election, then a default selection is automatically made. For scrip dividends, this means receiving the cash payment.
Cash is the suboptimal option in many cases. This has been especially true for the Financial Times Stock Exchange Group (FTSE 100 stocks. Our analysis of scrip dividends issued by FTSE 100 companies from 2011 to 2019 found that the stock option was ultimately more valuable in 140 of 243 – or 57.6 percent – of the instances recorded.
Our analysis has consistently shown that, when the stock is the more lucrative option, the majority of managers and investors still choose cash.
This is especially true with FTSE 100 stocks where, on average, 65 to 70 percent of shareholders make suboptimal elections.
Why are we putting so much emphasis on the FTSE 100? Because, out of all UK equities, FTSE 100 shares represent the vast majority of the total missed value with voluntary corporate actions.
Between 2011 and 2019, UK equity shareholders lost out on approximately $2.61 billion through suboptimal elections where the stock was optimal.
The total FTSE 100 missed value in these instances was about $2.14 billion – or 82 percent of the total for all UK equities. That’s just for the UK. This multi-billion dollar figure grows exponentially when factoring in other popular indices, such as the Dow Jones, S&P, NASDAQ, DAX, CAC, Nikkei and Hang Seng. Additionally, this figure doesn’t incorporate the lost value from rights issues.
The realisation of value may not occur as quickly with rights issues as they do with scrip dividends, but shareholders that opt not to exercise their right to purchase additional shares may see the value of their holdings become diluted.
What this tells us is that asset managers and shareholders stand to gain – or lose – the most by paying closer attention to voluntary corporate actions around the major indices.
What’s behind the missed value?
No asset manager wants to leave easy money on the table, especially as passive managers continue attracting the lion’s share of inflows. So why is this happening?
A lack of awareness is the primary reason. Corporate actions are largely viewed as an operational consideration, one that stands to lose money if managed inefficiently but otherwise not adding to the bottom line.
Many managers have yet to realise the amount of money that’s at stake. Additionally, other managers may not think it’s worth doing the analysis or dedicating the resource.
For one manager, looking at one single decision, the missed value may be no more than a couple thousand dollars across their investor pool. That number is relatively small, but again, this is happening across dozens or even hundreds of issues. In an environment where active managers are fighting hard for every basis point, leaving cash on the table seems imprudent.
Regulatory and jurisdictional restrictions can also play a part. For example, index trackers may not be mandated to take anything other than cash to avoid weighting errors.
Another reason is that corporate actions analysts can be stretched beyond capacity. This was especially true throughout the pandemic. Analysts typically have busy workloads, even when the markets are calm. Yet when volatility kicked up at the start of the pandemic, many analysts were redeployed to handle more seemingly pressing needs.
Concurrently, several companies undertook rights issues to help shore up their capital. It wouldn’t be surprising if it turns out that many asset managers missed an opportunity that they would have otherwise leapt on if they had the resources to analyse the value.
It’s important to acknowledge this because asset managers may be in for an increase in voluntary corporate actions, if the aftermath of the 2008/09 financial crisis serves as a bellwether. Conditions in 2009 were similar to what we saw back in March and April. Almost every asset class plummeted and balance sheets were squeezed, forcing many companies to swiftly raise capital.
Back then, we saw a jump in voluntary corporate actions, such as scrip dividends and rights issues. This was especially true among energy companies, who were hurt by persistently low oil prices. Offering shares in lieu of the typical per-share payments was beneficial to companies who were temporarily cash-strapped. The same trend happened in 2014, after a sudden oil price crash.
It took about six months after the fall of Lehman for the wave of scrip dividends to kick in. This partially explains why we didn’t see a similar increase in scrip dividends earlier this year. If oil prices continue to remain low and debt issuance becomes difficult, a scrip issue will be more appealing to many energy companies.
Making the pivot
There’s another reason why it’s important for asset managers to address their approach to voluntary corporate actions: fiduciary duty.
If managers are foregoing analysis and elections of these corporate actions, it wouldn’t be a stretch for investors to claim that these decisions aren’t being done in their best interest. Regulators, especially in the US, have been keeping a close eye on proxy voting and governance in recent months. The second Markets in Financial Instruments Directive (MiFID II) has also pushed managers to disclose their elections on certain events, which opens the door to greater scrutiny from investors. Between meeting fiduciary responsibilities and realising maximum value for shareholders, asset managers have multiple catalysts for taking a more active approach to voluntary corporate actions.
The first step towards a meaningful shift is awareness. Asset managers must better recognise what’s at stake. It’s also good to understand how strained analysts are, even as the market continues its recovery. When dividends were cut, many of these notices weren’t shared in a way that would be easily picked up by corporate actions processing platform. Per media reports, some companies notified shareholders via memos announcing the cancellation of annual general meetings. This would require analysts to track down and verify the information.
Analysing the value inherent in voluntary corporate actions is something that processing platforms don’t do. They’re primed to automatically capture and track standard corporate actions and drive the appropriate workflows, but this doesn’t extend to those where an election must be made. That said, there are complementary solutions which do the analysis and recommend the favourable course of action. The process of examining and electing a voluntary corporate action can be mostly automated. Internal controls are relatively simple to put in place. Adding these capabilities to existing corporate actions processing workflows can have the dual upside of maximising the value captured through optimal elections and reducing the burden placed on analysts. This ensures that resources aren’t redirected away from other revenue-generating activities.
In what could be another turbulent year, FTSE 100 companies are sure to have their share of voluntary corporate actions. Oil markets remain sluggish and, for many companies, revenue streams will be weakened as a result of new lockdowns. Yet, investor scrutiny on fund performance will remain strong. So if adding 30 or 50 basis points to annual performance can be as easy as playing a more active role in analysing voluntary corporate actions, why wouldn’t managers want to capture that value? In a highly competitive marketplace – especially one where the vast majority of UK equity managers have exposure to the FTSE 100 – the potential basis point gains are very meaningful.
Every year, there are dozens of voluntary corporate actions, where shareholders are required to make an election. In the case of scrip dividends, this means choosing between receiving a payment in cash or stock. For rights issues, this means opting to purchase more shares.
If a shareholder doesn’t actively make an election, then a default selection is automatically made. For scrip dividends, this means receiving the cash payment.
Cash is the suboptimal option in many cases. This has been especially true for the Financial Times Stock Exchange Group (FTSE 100 stocks. Our analysis of scrip dividends issued by FTSE 100 companies from 2011 to 2019 found that the stock option was ultimately more valuable in 140 of 243 – or 57.6 percent – of the instances recorded.
Our analysis has consistently shown that, when the stock is the more lucrative option, the majority of managers and investors still choose cash.
This is especially true with FTSE 100 stocks where, on average, 65 to 70 percent of shareholders make suboptimal elections.
Why are we putting so much emphasis on the FTSE 100? Because, out of all UK equities, FTSE 100 shares represent the vast majority of the total missed value with voluntary corporate actions.
Between 2011 and 2019, UK equity shareholders lost out on approximately $2.61 billion through suboptimal elections where the stock was optimal.
The total FTSE 100 missed value in these instances was about $2.14 billion – or 82 percent of the total for all UK equities. That’s just for the UK. This multi-billion dollar figure grows exponentially when factoring in other popular indices, such as the Dow Jones, S&P, NASDAQ, DAX, CAC, Nikkei and Hang Seng. Additionally, this figure doesn’t incorporate the lost value from rights issues.
The realisation of value may not occur as quickly with rights issues as they do with scrip dividends, but shareholders that opt not to exercise their right to purchase additional shares may see the value of their holdings become diluted.
What this tells us is that asset managers and shareholders stand to gain – or lose – the most by paying closer attention to voluntary corporate actions around the major indices.
What’s behind the missed value?
No asset manager wants to leave easy money on the table, especially as passive managers continue attracting the lion’s share of inflows. So why is this happening?
A lack of awareness is the primary reason. Corporate actions are largely viewed as an operational consideration, one that stands to lose money if managed inefficiently but otherwise not adding to the bottom line.
Many managers have yet to realise the amount of money that’s at stake. Additionally, other managers may not think it’s worth doing the analysis or dedicating the resource.
For one manager, looking at one single decision, the missed value may be no more than a couple thousand dollars across their investor pool. That number is relatively small, but again, this is happening across dozens or even hundreds of issues. In an environment where active managers are fighting hard for every basis point, leaving cash on the table seems imprudent.
Regulatory and jurisdictional restrictions can also play a part. For example, index trackers may not be mandated to take anything other than cash to avoid weighting errors.
Another reason is that corporate actions analysts can be stretched beyond capacity. This was especially true throughout the pandemic. Analysts typically have busy workloads, even when the markets are calm. Yet when volatility kicked up at the start of the pandemic, many analysts were redeployed to handle more seemingly pressing needs.
Concurrently, several companies undertook rights issues to help shore up their capital. It wouldn’t be surprising if it turns out that many asset managers missed an opportunity that they would have otherwise leapt on if they had the resources to analyse the value.
It’s important to acknowledge this because asset managers may be in for an increase in voluntary corporate actions, if the aftermath of the 2008/09 financial crisis serves as a bellwether. Conditions in 2009 were similar to what we saw back in March and April. Almost every asset class plummeted and balance sheets were squeezed, forcing many companies to swiftly raise capital.
Back then, we saw a jump in voluntary corporate actions, such as scrip dividends and rights issues. This was especially true among energy companies, who were hurt by persistently low oil prices. Offering shares in lieu of the typical per-share payments was beneficial to companies who were temporarily cash-strapped. The same trend happened in 2014, after a sudden oil price crash.
It took about six months after the fall of Lehman for the wave of scrip dividends to kick in. This partially explains why we didn’t see a similar increase in scrip dividends earlier this year. If oil prices continue to remain low and debt issuance becomes difficult, a scrip issue will be more appealing to many energy companies.
Making the pivot
There’s another reason why it’s important for asset managers to address their approach to voluntary corporate actions: fiduciary duty.
If managers are foregoing analysis and elections of these corporate actions, it wouldn’t be a stretch for investors to claim that these decisions aren’t being done in their best interest. Regulators, especially in the US, have been keeping a close eye on proxy voting and governance in recent months. The second Markets in Financial Instruments Directive (MiFID II) has also pushed managers to disclose their elections on certain events, which opens the door to greater scrutiny from investors. Between meeting fiduciary responsibilities and realising maximum value for shareholders, asset managers have multiple catalysts for taking a more active approach to voluntary corporate actions.
The first step towards a meaningful shift is awareness. Asset managers must better recognise what’s at stake. It’s also good to understand how strained analysts are, even as the market continues its recovery. When dividends were cut, many of these notices weren’t shared in a way that would be easily picked up by corporate actions processing platform. Per media reports, some companies notified shareholders via memos announcing the cancellation of annual general meetings. This would require analysts to track down and verify the information.
Analysing the value inherent in voluntary corporate actions is something that processing platforms don’t do. They’re primed to automatically capture and track standard corporate actions and drive the appropriate workflows, but this doesn’t extend to those where an election must be made. That said, there are complementary solutions which do the analysis and recommend the favourable course of action. The process of examining and electing a voluntary corporate action can be mostly automated. Internal controls are relatively simple to put in place. Adding these capabilities to existing corporate actions processing workflows can have the dual upside of maximising the value captured through optimal elections and reducing the burden placed on analysts. This ensures that resources aren’t redirected away from other revenue-generating activities.
In what could be another turbulent year, FTSE 100 companies are sure to have their share of voluntary corporate actions. Oil markets remain sluggish and, for many companies, revenue streams will be weakened as a result of new lockdowns. Yet, investor scrutiny on fund performance will remain strong. So if adding 30 or 50 basis points to annual performance can be as easy as playing a more active role in analysing voluntary corporate actions, why wouldn’t managers want to capture that value? In a highly competitive marketplace – especially one where the vast majority of UK equity managers have exposure to the FTSE 100 – the potential basis point gains are very meaningful.
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