Shareholder analysis provides an invaluable lens for developing a more nuanced understanding of your company’s ownership structure and gauging the quality of your shareholder base. A high-quality shareholder base can provide tremendous value to your company and is a sure sign of an effective management team and investor relations program. It ensures sufficient support for the company’s long-term strategy, which allows your management team to focus on running the business, while also providing an appropriate level of liquidity, which is essential to attract and retain institutional shareholders.
A high-quality shareholder base includes a mix of long-term investors with conviction (what we will call quality shareholders or “QSs”), passive (index and quantitative) investors and short-term traders. The ideal mix of these investors may shift over a company’s lifecycle but generally includes a majority of QSs.
Understanding your current shareholder base and defining your ideal shareholder base, however, can be a genuine challenge. Shareholder quality is inherently subjective and often risks going undefined and overlooked until it becomes too painful to ignore. In this article, we explore how to use shareholder analysis to evaluate the quality of your shareholder base and the effectiveness of your IR strategy.
First, we define a quality shareholder (QS) and the benefits of a high-quality shareholder base. From there, we provide a framework to understand and evaluate your current shareholder base, which we refer to as “shareholder analysis,” concluding with an exploration of practices that can help attract and retain QSs while recognizing the importance of all other shareholders. While you cannot control who buys and sells shares of your company’s stock, you can intentionally align your investor relations practices to target your QSs.
What Does a Quality Shareholder Look Like?
A quality shareholder, or QS, has a timeline and expectation of returns that align with the company’s purpose and long-term value proposition. They understand the company, its business model and its long-term strategy for delivering sustainable value to its stakeholders. In this context, “long-term” refers to an investment horizon that exceeds the one- to three-year horizon of many investors.
QSs understand the stakeholders of a company holistically, including employees, clients and the broader community, in addition to investors who have committed capital. Crucially, they see the management team and its vision as part of the company’s value and believe supporting management will be in their best interest as investors.
Benefits of a Quality Shareholder Base
Research has found that U.S. companies with a relatively high portion of QSs earned cumulative returns of nearly 500% between 2010 and mid-2020 vs. 181.9% for the S&P 500 Index. It has also shown that companies with a high proportion of QSs have a competitive advantage as their QSs provide patient capital counteracting pressure to attain short-term results at the expense of the long-term. [1] This research aligns with our own experience, which has shown that QSs can drive value by providing a number of tangible benefits for the company, including:
- Management has the freedom to focus on long-term strategy without worrying about stock price suffering due to the concerns of shorter-term investors.
- A resilient foundation of investors who believe in the company’s long-term value provides an added layer of defense against activist investors.
- A stable base of QSs helps limit volatility and excessive speculation.
- Quality shareholders who understand the company, its industry and its long-term strategy provide organic advocates who can help address misunderstandings in the marketplace.
By contrast, a lower-quality shareholder base can make it difficult to focus on executing long-term strategy, sap the time and energy of management and ultimately drive a lower valuation.
Evaluating the Quality of Your Shareholder Base
While the IR program should seek to evaluate the success of its work in nurturing the right shareholder mix, it’s always critical to acknowledge what is not within your control. Ultimately, it may be hard to know the exact mix of investors who own your company’s stock at any given moment in time. 13F filings and mutual fund holdings disclosures provide some insight, but more often than not, further research is necessary to understand the investor/decision-maker behind these disclosures.
Shareholder analysis is, in this context, often as much art as science, and relationships with QSs provide a valuable known quantity amidst the inevitable, constant churn of trading. Research has a key role to play in this analysis, as it is critical to take the time to understand the investment philosophy and approach of your institutional shareholders and how your company fits into their overall investment strategy. This will help you identify your QSs and understand the motivations behind other shareholders.
Key Elements of an Effective Shareholder Analysis Process
Because company ownership is never static, shareholder analysis is a task that is never done, and no company will ever achieve its “perfect” mix of shareholders (at least not for very long). While periodic analyses are important for maintaining awareness of any unanticipated shifts in your shareholder base, it is best to approach these analyses holistically as one aspect of the broader IR program. The more long-term relationships the company can maintain with QSs, the less important day-to-day fluctuations in ownership and share price become.
In this context, it is often best to iterate shareholder analysis work in response to particular shifts in business strategy, valuation, competitive dynamics, economic climate or marketplace perception. While the specifics will vary based on the issue at hand, the team at Arbor Advisory Group finds the following elements indispensable when working with a client to develop a more granular understanding of the quality and composition of their shareholder base.
1. Educate your management team and board on the ever-evolving investor landscape and the value of nurturing QSs as part of the broader shareholder mix. Capital market participants have evolved significantly over the last decade, and understanding the role that each plays within your shareholder base is a good first step.
2. Profile your QS based on management’s long-term vision for company strategy, assessment of current valuation and current market conditions.
3. Identify and assess the company’s current top shareholders, taking the time to understand the investing strategies of each one—and whether they fit your profile for a QS
4. Compile a list of current, former and potential QSs and maintain a regular proactive communication. Use this list as your target audience for quarterly earnings materials, annual report letters and other shareholder communications.
5. Analyze the current shareholder mix. Based on the information gathered on current top and quality shareholders, assess the company’s current roster of shareholders.
Judging whether your company has a sufficient base of QSs will always be subjective. For IR and management teams, the best method for evaluating the overall quality of your shareholder base is often experience. Is management’s time being consumed with investors obsessed with short-term performance? Does the stock have sufficient liquidity, or is it struggling with volatility?
6. Modify shareholder engagement activities to prioritize QSs. From the investor relations website to Investor Day materials to day-to-day investor communications, messaging should carefully speak to the concerns and motivations of the investors that management values most.
In general, today’s buy-side active managers employ much shorter time horizons than they did even 10 years ago. In our experience, their typical investment period has contracted from between five and seven years to three and five years. This shift effectively means that QSs can be more difficult to find than they were in the past. But long-term QSs do still exist, and it is still worth the time and effort to message strategically to this group.
The company’s board of directors and management team, along with IR, should agree on what a QS looks like and focus their messaging and the majority of their time and attention on this audience (while understanding the value that other investors provide and how these shorter-term investors may impact share price).
Why You Can’t Afford to Ignore Other Investors
While achieving the right mix of quality shareholders is a valuable anchor, other investors are not necessarily “low quality.” Passive (index and quantitative) investors and shorter-term traders provide liquidity and opportunity for quality shareholders. While the IR program may not need to build the same in-depth relationships with these shorter-term investors, investor communications should still reflect their concerns.
The overall role of index and other passive investing funds has grown dramatically, and these firms increasingly employ a relatively high bar for ESG-related issues, leading to deeper engagement on these matters than traditionally expected from passive funds. Quantitative investors, by contrast, intentionally maintain a hands-off approach to engaging with management as part of their investing approach.
In some instances, given the pod structure utilized by large hedge funds, you may have both a quality investor and an “other” investor at the same firm. These firms are often opaque regarding their overall investment strategy. They may hold both long and short positions which could result in a modest net shareholder position. While these funds may not appear as large holders at the end of the quarter or have proxy voting leverage, they can still provide valuable liquidity and should not be ignored. As we explain below, a variety of other shareholders still play an important role in a quality shareholder base.
Serve All Investors, Target Quality Investors
With the above concerns in mind, maintaining the right mix of shareholders requires adopting an IR strategy that serves all investors while targeting QSs. A company cannot choose its own shareholders. However, it can be mindful in its communications to attract and maintain the desired types of shareholders. As Warren Buffet once wrote in his shareholder letter:
“In large part, companies obtain the shareholder constituency that they seek and deserve. If they focus their thinking and communications on short-term results or short-term stock market consequences they will, in large part, attract shareholders who focus on the same factors. And if they are cynical in their treatment of investors, eventually that cynicism is highly likely to be returned by the investment community.” [2]
Targeting QSs means deliberately focusing on communicating the core long-term value of the organization and how it can be maximized for the benefit of all stakeholders. This means articulating what the organization is (and what it is not) while setting clear expectations for what shareholders can expect via external communications (including filings, quarterly results updates, website content, investor presentations and more).
A more deliberate, strategic approach to investor communications provides the foundation for deeper engagement and relationship-building with QSs. Doing so successfully is not just about targeting new investors. We recommend starting by deepening relationships with your current and former QSs. The ROI will always be higher when working with investors who already understand your company, its strategy and its long-term plans. As a rule of thumb, setting aside meeting time with your top 10 to 20 QSs is a sound goal for maintaining an active, open dialogue with your most important shareholders.
The value of building these relationships cannot easily be measured in terms of new positions, as the holdings of even the biggest believers will naturally wax and wane as valuation shifts over time. Periods of higher valuation will often see sales by quality shareholders, but if you have done thorough work building relationships with these investors, they will come back—often when valuation is lower and the stock is trading back below their price target (and in greater need of price support). When targeting new investors, periods of lower valuation may actually be your best opportunity to bring on quality shareholders.
For IR professionals, it is critical to work with your management team to establish a firm understanding of where your own company is in its valuation cycle, how it is positioned in the broader marketplace and how your company is perceived by investors. This knowledge should shape your approach to targeting shareholders who see long-term ROI in owning your stock. If management considers the firm undervalued, consider targeting value investors who are more likely to see the stock as a hidden gem. If management believes the company has a viable strategy for beating market growth in the coming years, it is critical to communicate this to relevant growth-oriented investors.
Learn more about diagnosing and solving “valuation gaps” in our article here.
Conclusion: Foster Trust with Your Best Shareholders
Arbor Advisory Group understands that effective investor relations depend on authentically communicating your business strategy and results to the right investors. Our team brings together decades of investor relations experience with the analytics needed to help understand your company’s place in the market, the valuation of its stock and the motivations of its top investors. We can help develop a strategy for fostering trust with today’s best shareholders while targeting the future stockholders your company needs for sustained success.
Learn more about our philosophy for building relationships with your company’s stakeholders here.
Citations
[1] Lawrence A. Cunningham, Quality Shareholders: How the Best Managers Attract and Keep Them (New York: Columbia Business School, 2020).
[2] Warren Buffet, “To the Shareholders of Berkshire Hathaway Inc.,” Berkshire Hathaway, accessed 2024, https://www.berkshirehathaway.com/letters/1979.html
