The new breed of corporate raider

NEW YORK (Fortune) -- This week Carl Icahn announced that he'd scooped up a 1.9 percent stake in Motorola and threw the first salvos in a war of words designed to shake things up at the troubled cell phone maker. So far his latest investment has pushed Motorola (Charts) shares higher, but is a 1.9 percent stake large enough to make a genuine difference in corporate governance?

After all, Icahn's 2.8 percent of Time Warner (Charts) may have made him lots of money, but his desired board seats, ouster of Chief Executive Richard Parsons and break-up of the media conglomerate never came to pass. (Time Warner is the parent company of Fortune and CNNMoney.com.)

Is the Carl Icahn school of corporate raiding still the most effective?

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By contrast, last month, Ralph Whitworth became a major catalyst in the ouster of Home Depot (Charts) CEO Bob Nardelli. With less than 1.2 percent of stock, he presented a plan that made sense to shareholders and spurred changes at a company with an executive suite that, rightly or wrongly, had become the public face of corporate arrogance and greed.

While Icahn may wield headlines and verbal zingers, there is a new breed of corporate objector - the velvet gadfly - who treads more softly, works well with management and can be all bite without the bark because he or she has the most powerful tool of all: the right idea.

"Carl Icahn had a higher ownership percentage of Time Warner [than Whitworth had of Home Depot], but the power of his ideas apparently were not strong enough," says Chris Young, director and head of M&A research at Institutional Shareholder Services. He refers to Icahn's failed plan to break up Time Warner, get board representation and even oust CEO Parsons. "In a different time, or a different company, those same ideas might have resonated with shareholders."

Clifton Robbins, a 20-year private equity veteran who worked at KKR and General Atlantic, believes there are undervalued companies that will budge if presented with a plan that makes sense, and he founded his hedge fund, Blue Harbour, in 2004 to find those targets.

"We do everything we can to minimize the chance that we end up in a situation where our only alternative is to act in an adversarial way," says Robbins. "There is a role for hostile activism, because there are sometimes cases when the only way to effect change is to be aggressive and have a proxy contest, but that's not our strategy."

He eschews the term activist investing, due to its hostile connotations, declaring instead that his fund "takes a private equity approach to the public markets." Blue Harbour won't even work with companies unless they're open to his ideas much as they would be if the fund bought them outright. And Robbins brings to the table a reputation for working with corporate boards, an ability to pick the right targets at the right time, a long-only position in the company and a three- to five-year investment horizon, which help him to convince struggling companies that he can and will be a force for positive change.

Blue Harbour has worked with Yankee Candle (Charts) and Reader's Digest (Charts), both of which were eventually bought out by private equity firms Madison Dearborn and a Ripplewood-led consortium, respectively.

Whitworth used a similar approach with Home Depot. While willing to walk into a hostile situation, Whitworth is effective because he picks the best targets, has the right ideas and is well-respected. "He was able to create a maelstrom and this is partly because he picked the right target," says Michael Feiner, a professor of management at Columbia's Graduate School of Business. "The issue with Nardelli was so explosive that he easily had the media and the public on his side." Moreover, shareholder activist Nell Minow says "people also trust Ralph because he has a 20-year career delivering on his promises to investors and corporate managers."

Former SEC chairman Richard Breeden has recently stepped into the activist ring with his hedge fund Breeden Partners, and he hopes that his insider ties, reputation and willingness to stick with a company as it works to right itself will make him a velvet fist to be reckoned with. He is best known as the turnaround expert brought in to rehabilitate WorldCom's corporate governance system and investigate insider abuses at Hollinger. He spent a decade working with companies that implemented his ideas without a fight, and his activist fund grew from his turnaround expertise and the credibility it gave him with corporate boards.

"Corporate America is beginning to understand that the era of the do-nothing board is coming to an end," says Breeden, adding that the companies that "spend millions on lawyers to shield them from having to listen to their own shareholders" will fail more and more often, in part because of funds such as his. "Our goal is not to have to run in a proxy contest, but rather to work constructively with the board to address performance issues and identify ways to make the situation better. Good companies are open to that kind of input," says Breeden.

However, when diplomacy fails, he is willing to fight. Breeden Partners is gearing up for a shareholder battle with stock laggard Applebee's (Charts); and this will be a fight to follow in the 2007 proxy season.

It could also have huge implications for his fledgling fund, which has raised only $500 million, including $400 million from California pension giant Calpers. It had sought to raise $1.25 billion. There has been a slew of speculation that this proxy season will be vicious, bringing scrutiny to bear on the likes of Home Depot, Motorola, Applebee's and encouraging shareholders of stragglers like Gap (Charts) to agitate.

But Young says there is a chance that boards are sensitive to the bad press generated by proxy fights and might work with the "cool consensus builders." In the Home Depot situation, some insiders believe that the company could agree to concessions with Whitworth, without a blowout proxy battle. Whitworth and new Home Depot CEO Frank Blake have mutual friends thanks to their past work in the government, and people close to the situation say that there is a sense of respect between the parties as a result.

A willingness to listen to riled shareholders would reaffirms Blake's role as the man who must take care of his company's bad public relations as well as its struggling stock.

"I'm surprised that companies are not beating down the doors trying to get investors like us to agree to go on their boards. Major shareholders have an important perspective on operations and compensation practices, so wouldn't reaching out to funds and major shareholders make sense?" asks Breeden. "These are not unsolvable things. You know they can be fixed because the competition is there to prove it."

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