Betting on failure: how to fight back against short sellers
Outsiders place vast amounts of money predicting businesses will suffer. They’re not always right, and it’s possible to check the tactics before they drag values down.
Short selling has become a more noticeable feature of the markets since the financial crisis of 2008. Its operation – borrowing shares to sell in advance – allows investors (short sellers) to speculate on a business doing badly as opposed to backing it to do well. It has also become one of the most contentious issues for those running businesses, and in our experience a frequent cause of concern for CEOs, boards and, of course, shareholders who are backing a business to succeed. As the Tesla founder and CEO Elon Musk put it during a difficult summer 2018, the business being shorted “means that there are a large number of people who have the incentive to attack us”.
Why short sell?
Shortly before its collapse in 2017, the British PLC Carillion was by far the most shorted stock on the FTSE 100, reflecting the manner in which many investors and commentators expected the business to do badly. As a passive practice waiting for negative effects to unfold, short selling is a largely uncontroversial process. The challenge comes with more activist forms of short selling, where investors are suspected – and in a growing number of cases proven – to be actively taking steps to fulfil the prophecy of a falling share price.
Is it legal to attack a shorted share?
The behaviour of “activist” short sellers has caused consternation in many board rooms, and in some cases the behaviour can give rise to regulatory, criminal or civil sanction. Market manipulation and misdemeanours to impact share price will attract attention of regulators – where it can be traced and proven. This is where the tactics of short sellers enter a grey area and can result in legal action.
How do we figure out if short sellers are attacking us unfairly?
Most boards or investor relations teams will pick up on criticism they consider unfair quickly, we find that research and analysis techniques can find patterns to indicate whether a broader campaign is in play. Likewise, as with many other areas impacting reputation, there is often a ‘play book’ deployed in such campaigns with predictable escalation points, giving opportunities to identify and avert future threats.
What sort of tactics do activist short sellers employ?
The key tactics of activist short sellers are research and then dissemination of negative research findings – in effect to encourage others to share their belief the business is over-valued and drop the price. Methods we have seen frequently involve challenging interpretation of financial data or accounting techniques, or raising questions about ethics and practices of a business. Sometimes this will consist of open and public critiques. On many other occasions though, the criticism is propagated anonymously – via blogs, anonymised reports or PR campaigns. The key though is impacting the reputation of the business with shareholders for being well managed, behaving properly and – critically – being correctly valued.
What sort of strategy should a board set for these campaigns?
We go back to how we view reputation challenges: the key is remembering the idea of what aspect of your reputation and with whom is being challenged and tailoring your strategy to fit that, rather than jumping straight to activity. The key then is identifying what in the circumstances will reassure markets that the attacks the business faces are motivated and – vitally – untrue.
What steps can a board take?
The tactics to be employed depend on the strategy, but in cases we have dealt with, they include:
- Evaluating and rebutting the substantive allegations being made to provide substantive rebuttal;
- Using legal and investigative techniques to expose the identities of accusers and demonstrate links to parties with vested interests;
- Undermining allegations to deter their adoption and propagation by more credible outlets;
- Legal measures to vindicate reputation in the face of false allegations;
- Supporting PR strategies to highlight motive and avoid harm, or rebuild reputation following an attack.