Less is More: Making Shareholder Activism a Valued Mechanism of Corporate Governance

Abstract

Institutional investors have increasingly engaged in corporate governance activities, introducing proxy proposals and negotiating with management, with a goal of improving corporate performance. As shareholder activism has increased, financial economists have sought to measure its effect on performance. This paper reviews the corporate finance literature on institutional investors' activities in corporate governance and also empirically investigates the effect of confidential voting proposals on voting outcomes. It then uses the findings of the empirical literature to inform normative recommendations for the proxy process. In brief, there is an apparent paradox: Notwithstanding the development of shareholder activism and commentators' generally positive assessments of it, the empirical research indicates that such activism has little or no effect on targeted firms' performance. This implies that activist institutions ought to reassess their agenda, in order to use their resources more effectively. The paper takes a two-pronged approach to furthering this aim. First, it suggests a mechanism of internal control, whereby funds would engage in periodic review of their shareholder-activism programs to identify the most fruitful governance objectives. Second, it seeks to provide incentives to undertake such internal revaluations by advocating elimination or significant reduction of the subsidy of proposal sponsorship under the SEC rules unless a proposal achieves substantial voting support, or permitting firms' shareholders to choose what level of subsidy they wish to provide proposal sponsors. The estimated savings from eliminating the subsidy for proposals that fail to receive at least 40% of the votes ranges from $293 million to $1.9 billion.

JEL Classification: G34