Finance

Gillian Tan is a Bloomberg Gadfly columnist covering deals and private equity. She previously was a reporter for the Wall Street Journal. She is a qualified chartered accountant.

The often collaborative and rarely antagonistic narrative that has long defined the relationship between activist shareholders and private equity firms may soon face a test. 

Late Wednesday, Cornerstone OnDemand Inc., a $2.2 billion maker of cloud-based software for human-resources functions, said private equity firm Silver Lake and LinkedIn Corp. would make a $300 million investment in the company. The funds will be used in part to repurchase stock.

The transaction, which is in the form of pricey convertible notes that pay a yield of 5.75 percent and convert at a measly 11.7 percent premium to the company's closing price Wednesday, appears to be the result of an activist-prompted strategic review.  And it dashed hopes among investors of an immediate sale of the company, judging by the drop in Cornerstone's shares on Thursday morning. 

A takeover may or may not happen eventually. But, in time, if Cornerstone can't show that it's making progress toward goals laid out Wednesday (most importantly the "Rule of 40", a gauge of performance measuring a company's rate of revenue growth to its free cash flow margin), it'll be curious to see how things unfold between Silver Lake and the company's bevvy of activist shareholders.

Magic Number
Cornerstone OnDemand may find it tough to achieve its "Rule of 40" target, which is a good measure of a software company's financial health
Source: Bloomberg

Cornerstone's activists include Praesidium Investment Management and RGM Capital, which have either privately or publicly pushed for a sale of the company and may be inclined to stick around since they've not yet achieved that outcome or their targeted returns. The presence of Silver Lake, which will only earn a decent return if Cornerstone's stock meaningfully rallies past its conversion price, may actually make it easier for the company's activists to effect change.

Remember, the company's chairman and CEO Adam Miller is unpopular among existing shareholders, having received 27 percent of "withhold" votes earlier this year despite receiving a "for" recommendation from proxy advisory firm Institutional Shareholder Services. So it's possible that if Silver Lake gets impatient with the company's progress, its two directors could encourage the rest of its board to make management changes. Notably, private equity firms have no issue with replacing management, but it is usually done once the company is outside of the glare of public markets.  

Long Grind
Wall Street analysts are split on the company's prospects. Even factoring in Silver Lake and LinkedIn's investment, some believe the stock is worth $34 or less.
Source: Bloomberg

Any actions taken by Silver Lake that would appease activists would highlight the evolving nature of the relationship between the two investor groups. By way of background, private equity firms regularly act as white knights for activists by swooping in as buyers of targeted companies. More recently, though, the line has blurred with some private equity firms willing to take so-called toe-hold stakes and at least one activist establishing a private equity arm of its own.

As a side note, it's impossible to ignore LinkedIn's participation in the $300 million transaction. Logic would indicate that it's simply waiting to be completely integrated into Microsoft Corp., a process that's likely still underway since that $24 billion deal closed only 11 months ago. LinkedIn, and by extension Microsoft, may have more in mind once that's done.

Whatever happens, Silver Lake may have done more than just inject capital into an undervalued software provider. If, even with the savvy investor's helping hand, Cornerstone can't turn things around, the private equity firm may find itself playing the part of an activist advocate. 

This column does not necessarily reflect the opinion of Bloomberg LP and its owners.

  1. Vista Equity Partners, for instance, replaced Tibco's founder, chairman and CEO Vivek Ranadivé as soon as it closed its $4.1 billion buyout of the software provider

  2. Similar situations have never quite fully baked: Elliott Management LP took a stake in Symantec Corp. just as Silver Lake made a $500 million investment in the cybersecurity company. Elliott never launched an activist campaign and quietly sold its stake in the fourth quarter. Similarly Marcato Capital Management didn't stick around in NCR Corp. after Blackstone made an investment in late 2015.  

  3. Plus, there's also ValueAct's ironic stake in KKR, where it's limited to collaborative talks due to limited voting rights

To contact the author of this story:
Gillian Tan in New York at gtan129@bloomberg.net

To contact the editor responsible for this story:
Beth Williams at bewilliams@bloomberg.net