Behind the Scenes: The Corporate Governance Preferences of Institutional Investors

Question 1

What is the main idea?

Answer 1

Asking how people make portfolio companies behave.

Question 2

Define Institutional investors.

Answer 2

An entity which pools money to purchase securities, real property etc. Include banks, insurance companies, hedge funds etc.

Question 3

Why there is limited knowledge how institutional investors engage with their portfolio companies?

Answer 3

Most of the interactions occur behind the scenes.

Question 4

Which 2 activities investors conduct when they are unhappy with companies performance?

Answer 4

1. Voice: engaging with management to try to initiate change.
2. Exit: leave the firm by selling shares (can also serve as a disciplinary action)

Question 5

What encourages shareholder activism?

Answer 5

Shareholders tend to engage more over long-run strategic issues. Main drivers: fraud, inadequate corporate governance etc.

Question 6

What discourages shareholder activism?

Answer 6

Free rider problem, inadequate legal rules, diversification requirements for mutual funds can prevent them from effective voice strategy. Weak disclosure requirements. COnflict of interest, private costs.

Question 7

From the survey: are institutional investors active? How many have discussed with management? Do they use exit strategy?

Answer 7

Are active overall: 19% have not taken any actions in past 5 years.
Over 50% had discussed with managements. 39% have sold share due to dissatisfaction with corporate governance.

Question 8

Do institutional investors use public measures?

Answer 8

Only when private discussions and negotiations fail, they use public measures. Agressive public measures are also used: 15% have used legal actions, 13% have used public criticism.

Question 9

Are voice and exit complements?

Answer 9

They are because, managers tend to take discussions with shareholders more seriously in the face of a threat to exit.

Question 10

Can Voice and Exit be substitutes?

Answer 10

Some investors may lack the expertise to negotiate, thus they exit. There might be huge capital gains costs when exiting, thus voice is more attractive.

Question 11

What did researchfind whether Voice and exit are substitutes or complements?

Answer 11

Finds robust positive correlation, suggesting that they are complements!

Question 12

Does Liquidity matter as a determinant for voice intensity?

Answer 12

Higher liquidity of shares held encourages investors not to bother with activism and liquidate.
Paper reflects negative relationship between liquidity and voice.