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Weekly UpdatesCorporate experiences with consequences of the Sarbanes-Oxley Act of 2002 (SOX), changes in the listing standards for the New York Stock Exchange (NYSE) and NASDAQ Stock Market, Inc. (NASDAQ), recent corporate scandals, and the emergence of activist investors have fostered a climate of intense scrutiny of corporate governance structures and activities. The effects of these changes are expected to increase shareholder activism, especially institutional shareholder activism (Whitehouse, 2007). Indeed, the 2007 proxy season reflected increased evidence of shareholder activism (Brewer, 2007).
The scholarship on corporate governance since Berle and Means (1932) has generally assumed the separation of ownership and control to be an inevitable attribute of public corporations (Bainbridge, 1995), causing the research to focus on the consequences of the separation. The consequences of the separation are generally referred to as agency costs (Jensen and Meckling, 1976) and agency theory has been the predominant paradigm for understanding and explaining corporate governance issues. Within the discussion of the consequences of ownership structure, the proper role of institutional investors and the reduction of agency costs "has spawned a generation of corporate literature" (Garten, 1992: 588). Despite the disincentives of prior and existing constraints against collective action, "free-riding" by some shareholders (i.e., that all investors will share in the gains generated by the efforts of a single activist investor or small group of activist investors) (Black, 1998) and "free-walking" (i.e., that rather than expend time and money trying to improve the performance of a company in its portfolio, an institutional investor will just sell the shares of the under-performing company and walk away) (Ingley and van der Walt, 2004), some shareholder activists find that the gains from activism often outweigh its costs (Rubach, 1999).
Prior research has demonstrated that: (1) many institutional owners are activists (Brown, 1998), (2) their activism is expressed in a variety of forms from confrontational to relational (Ryan and Schneider, 2002; Useem, 1996), and (3) their activism can affect firm performance (Chaganti and Damanpour, 1991). While much has been learned about the ways in which institutions attempt to influence governance and the consequences of these attempts, at least one central question remains unaddressed: which institutions are most likely to be activists? To answer this question, this study examines Ryan and Schneider's model (2002) of the antecedents of institutional investor activism.
The article proceeds as follows. First, we discuss specific determinants of activism as proposed by Ryan and Schneider (2002) and develop the bases for our hypotheses. Next, we present the sample, data collection, variables, and analytical methods employed to test the hypotheses. This is followed by the results of the analyses. Finally, we discuss the implications of the findings for both researchers and practitioners and address the limitations and additional opportunities for future research.
DETERMINANTS OF ACTIVISM
Ryan and Schneider (2002) argue that the type of institutional investor determines whether an institutional investor will practice shareholder activism. While other influences are possible, this study examines several determinants of institutional shareholder activism proposed by Ryan and Schneider (2002) that are measurable through survey data, yet parsimoniously capture areas likely to ignite activism: fund size, investment time horizon, performance expectations, pressure sensitivity, legal restraints, and portfolio management (internal versus external) (see Figure I). The research is consistent with a call for investigation of more finely-grained measures of institutional investors by Sundaramurthy et al. (2005).
Fund Size
Previous research on large investors (e.g., DelGuercio and Hawkins, 1997; Nesbitt, 1994; Romano, 1993; Wahal, 1996) and involving specific large institutions such as TIAA-CREF (Carleton et al., 1998) or the Council of Institutional Investors (Opler and Sokobin, 1995) suggests that the size of the institutional shareholder, as measured by the value of the assets being held for investment, affects activism. Large institutions are likely to have the necessary portfolio assets to spread the risks and expenses of activism (Admati et al., 1994). They are likely to possess the power necessary to gain access to, and be attended to by, directors and top managers. In addition, the reporting of institutional activism by the popular press has centered on the activities of a few large public pension plans and coalitions of firms (Hawley and Williams, 1996). Empirical and anecdotal evidence, together with theoretical arguments presented by Ryan and Schneider (2002), suggest that larger institutions will practice activism, leading to the following hypothesis:
H1: Shareholder activism will be positively associated with institutional investor size.
[FIGURE I OMITTED]
Investment Time Horizons
An important difference among institutional investors is their perspective towards their investments, whether long-term or short-term in nature (Ryan and Schneider, 2002). Institutional investors have different liquidity needs, especially pension plans that have predictable, long-term outflows to beneficiaries (Ryan and Schneider, 2002). Some institutional investors, particularly mutual funds, insurance companies, and banks, have beneficiaries who can depart at any time when dissatisfied with the returns, leaving these institutional investors with a much shorter investment horizon (Ryan and Schneider, 2002). The mobility of the principal constituents, that is, whether beneficiaries have the option of moving their investments, affects the institutional investor's potential for influence activism (Useem, 1996; Black, 1992). An unsatisfied constituent of a mutual fund, insurance company, or bank trust can simply take his or her assets elsewhere. It is likely that such constituents see themselves as short-term investors rather than long-term owners of the firms in an institution's portfolio.
Faced with competitive comparisons and pressures for short-term financial returns, institutional owners whose principal constituents are mobile may focus their efforts on maximizing short-term financial returns by trading rather than buying and holding (Ryan and Schneider, 2002; Useem, 1996). In contrast, pension plans, foundations, and endowments do not compete for constituents. Beneficiaries of pension plans are "completely captive" to their institutional owners (Useem, 1996); their vested benefits are not transportable. The charters of foundations and endowments often restrict those institutions from pursuing some forms of "influence" activities. Previous research has indicated that private pension plans are not usually associated with voice and activism (Rubach, 1999). Private pension plans are controlled by the corporations that establish them and are sensitive to the issues of activism (Brickley et al., 1988).
Following the theoretical arguments presented by Ryan and Schneider (2002), we hypothesize that institutions with longer time horizons will have the potential for increased voice and influence and practice activism, while those institutions with mobile constituents (mutual funds, insurance companies, and bank trusts), due to economic pressures, are less likely to be active shareholders.
H2: Shareholder activism will be positively associated with longer investment time horizons (the captivity of institutional investor beneficiaries being an indicator of investment time horizon).
Performance Expectations
One articulated goal of institutional activism is to improve the performance of investment funds (Conard, 1988). Based on the fiduciary standards under which many institutional investors operate, financial returns will be an overriding concern. Arguably, an institutional shareholder will become active in order to receive a benefit. The larger the total benefit to be derived, the more likely the institutional shareholder will undertake the activism (Hawley et al., 1994). Although it is argued that institutional owners practice shareholder activism to improve the performance of their portfolios, portfolio returns are not the only measure of performance. Ryan and Schneider (2002) argue that there are different motivations, both financial and non-financial, for institutional shareholders to involve themselves in corporate governance and decision-making processes.
It is possible that institutional shareholders may be concerned with other than purely financial returns (Blair, 1995). Institutional owners may be responsive to the needs or wants of their beneficiaries or owners, even to the extent of championing their preferences (Garten, 1992; Rock, 1991). Pension plans in particular may consider long term goals and objectives of society over increased stock prices. These long-term societal interests may include an expanding economy with the creation of economic opportunities and jobs, increased personal wealth, a clean and sustainable environment, an improving infrastructure, technological innovation and the promotion of research and development, and global competitiveness (O'Barr and Conley, 1992). Free-walking has little social impact, which leaves activism as a means of affecting social change. Romano (1993) suggested that pension plans, especially "politicized" public plans, would invest not purely to maximize financial wealth. They would maximize total wealth through the targeting of investments to the localities where the plans were located. These arguments, together with Ryan and Schneider's (2002) proposition, suggest that institutional shareholders who measure success in both financial and non-financial terms, a total wealth maximization measure, are more likely to have reasons to become active.
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