67 Pages Posted: 24 Jan 2013 Last revised: 31 May 2013
Date Written: March 11, 2013
Equity ownership in the United States no longer reflects the dispersed share ownership of the canonical Berle-Means firm. Instead, we observe the reconcentration of ownership in the hands of institutional investment intermediaries, which gives rise to what we call “the agency costs of agency capitalism.” This ownership change has occurred because of (i) political decisions to privatize the provision of retirement savings and to require funding of such provision and (ii) capital market developments that favor investment intermediaries offering low cost diversified investment vehicles. A new set of agency costs arise because in addition to divergence between the interests of record owners and the firm’s managers, there is divergence between the interests of record owners – the institutional investors – and the beneficial owners of those institutional stakes. The business model of key investment intermediaries like mutual funds, which focus on increasing assets under management through superior relative performance, undermines their incentive and competence to engage in active monitoring of portfolio company performance. Such investors will be “rationally reticent” – willing to respond to governance proposals but not to propose them. We posit that shareholder activists should be seen as playing a specialized capital market role of setting up intervention proposals for resolution by institutional investors. The effect is to potentiate institutional investor voice, to increase the value of the vote, and thereby to reduce the agency costs we have identified. We therefore argue against recent proposed regulatory changes that would undercut shareholder activists’ economic incentives by making it harder to assemble a meaningful toe-hold position in a potential target.
Keywords: agency capitalism, agency costs, activist investors, hedge funds, governance, mutual funds
JEL Classification: G12, G23, G34, K22
Suggested Citation: Suggested Citation
Gilson, Ronald J. and Gordon, Jeffrey N., The Agency Costs of Agency Capitalism: Activist Investors and the Revaluation of Governance Rights (March 11, 2013). Columbia Law Review, 2013 (Forthcoming); ECGI - Law Working Paper No. 197; Columbia Law and Economics Working Paper No. 438; Rock Center for Corporate Governance at Stanford University Working Paper No. 130. Available at SSRN: https://ssrn.com/abstract=2206391