Jana Partners may have a three-pronged plan to build value at Zendesk

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Company: Zendesk Inc. (ZEN)

Activist: Jana Partners

Percentage Ownership: about 2.0%

Average Cost: n/a

Activist Commentary: Jana Partners is a very experienced activist investor with much success in the information technology industry. Jana’s returns in this industry average 24.02% versus 7.64% for the S&P 500 over the same period. Jana rarely sends public letters to boards. They are not activists for activism’s sake, but will only engage when they feel that they can either create significant shareholder value or stop the deterioration of shareholder value. In this case, they could potentially do both.

What’s Happening?

Behind the Scenes:

The first thing that Jana can do to create value for shareholders is lead the fight against the merger of Zendesk and Momentive. Jana makes several good points as to why this deal should not happen including: (i) the company is making its largest ever acquisition at a premium valuation using undervalued equity; (ii) it goes against the company’s successful historic strategic focus and direction; (iii) Zendesk was already experiencing execution issues with its current business; and (iv) it makes Zendesk much less attractive to a potential acquirer of its business.

But you do not need to take Jana’s word on this – the market has spoken loudly. Since the deal was announced, Zendesk’s stock is down nearly 20% and Momentive is down roughly 25% (as of market close Dec. 3) in an otherwise flat market. Moreover, Momentive shareholders are not too happy with it either – activist investor and Momentive shareholder Legion Partners quickly came out in opposition of the deal. This deal is so bad that it could possibly be one of the few, if any, mergers in history to be voted down by both sides. Just terminating this deal alone should create tremendous value for shareholders.

Once that happens, the second thing Jana could do to create shareholder value like they have done in many other companies is bringing an experienced and fresh perspective to the board. Given the execution issues the company has been experiencing and this recent misstep, the board and management could certainly benefit from adding a shareholder orientation. As Jana does with most of their active engagements, and as they allude to in their letter, they are working with a team of public company directors and executives with relevant industry experience who would likely be excellent board candidates. The company’s CEO, Mikkel Svane, is also its founder, and he is clearly brilliant but he might not be the best person to run the day-to-day operations of a public company. Moreover, the lead director, Carl Bass, is not a fan of activists: When engaged by activists as CEO of Autodesk he called them sports fans who think they know more than the coaches and owners. Less than one year later, he was no longer CEO of Autodesk. If he is not careful, he can experience a similar outcome here as he is up for re-election in 2022.

The best thing the board can do for itself is promptly decide to terminate the merger agreement as a response to the will of the shareholders. If instead the agreement is terminated because shareholders vote against it, as it appears it will be, history has shown that this is a big endorsement for the activist and against management and will allow the activist to walk on to the board next annual meeting if they choose to do so. Further, at last year’s annual meeting there were already signs of shareholder discontent – Hilarie Koplow-McAdams and Michelle Wilson, two of the three directors voted on, received 40.04% and 37.43% of votes against them.

This situation would lead to the third value creation opportunity here – a sale of the company to a strategic. Back in 2016, when Salesforce board member Colin Powell’s email was hacked it was disclosed that Zendesk was on Salesforce’s M&A target list but that their view was that the Zendesk CEO was not interested in selling. Likewise, private equity has shown interest with nothing to show for it. Well, an activist involved generally puts a company in pseudo-play, and a board that is on the precipice of losing a proxy fight suddenly gets incentivized to sell the company if they think they are going to be out one way or the other.

Ken Squire is the founder and president of 13D Monitor, an institutional research service on shareholder activism, and the founder and portfolio manager of the 13D Activist Fund, a mutual fund that invests in a portfolio of activist 13D investments.