Over the past three decades, there has been tremendous change in the ownership of publicly-traded firms in the U.S. Consolidation in the asset management industry and the rise in mutual fund investing have led a small number of institutional investors to become the largest shareholders in most publicly listed firms. As a result, competing firms are increasingly becoming owned, in part, by the same large institutions (henceforth, common ownership). The fraction of U.S. public firms that are commonly owned – i.e., have at least one investor that simultaneously owns a large investment stake in the firm and at least one of its competitors – has increased from below 5 percent in 1980 to approximately 65 percent in 2016. Data from Compustat suggest that BlackRock and Vanguard are among the largest five shareholders of more than 53 percent of U.S.-listed firms.
Given this significant shift toward common ownership, it is important to understand its consequences on firm behavior. Does common ownership affect the way managers behave? How does it affect investors?
Prior literature suggests that common ownership decreases competitive behavior. That is, common ownership gives managers of co-owned firms an incentive to behave in ways that increase the portfolio value of the common owners. If firms are less competitive with each other, they may be less concerned about sharing proprietary information in their disclosures – one of the primary constraints to full disclosure.
Prior studies also maintain that disclosure by one firm in an industry can be beneficial for its peers, as there are spillover effects related to liquidity and cost of capital. Thus, increased disclosure by one co-owned firm can benefit its peer firms owned by common owners, increasing the portfolio value of common owners. For these reasons, common ownership could create incentives for firms to increase disclosure.
In a recent study, my colleagues and I tested these theories with data. We looked at common ownership’s impact on firms’ disclosure of information like earnings forecasts and capital expenditures. If common ownership does affect firms’ disclosure decisions, we wanted to know how and to what extent.
In our study, we looked at firms where one of the investors simultaneously owned a stake larger than 5 percent in at least two firms in the industry. As all public companies are required to make certain minimum disclosures in the U.S. (via 10-Ks, 10-Qs, etc.), we looked at any voluntary disclosures above and beyond that minimum. We used three disclosure proxies that are all useful to the market but differ in the degree to which they reveal proprietary information: earnings forecasts, capital expenditure forecasts, and redacted disclosures. We used a sample of 54,541 U.S. public firm observations from 1999 to 2015.
Consistent with theory, we find that common ownership is positively associated with the likelihood and frequency of disclosures of earnings and capital expenditure forecasts. To be more specific, our data showed that common ownership increases disclosure of earnings forecasts by 8.8 percent and disclosure of capital expenditure forecasts by 12.9 percent. However, common ownership does not generally affect the extent to which firms redact sensitive information from contracts.
We conducted additional tests to shed light on why common ownership increases disclosure. We find that the relationship between common ownership and disclosure is greater in industries where the proportion of commonly owned companies is higher. This is consistent with greater perceived disclosure benefits as a result of reduced proprietary costs.
Interestingly, we also find that common ownership is associated with fewer redactions when industry-level common ownership is high. This suggests that when the percentage of non-commonly owned firms in an industry decreases, co-owned firms become less worried about competition and are more likely to disclose proprietary information.
In addition, we looked at whether common ownership is associated with an increase in stock liquidity, as large institutional investors – often the common owners – value liquidity due to the size and frequency of their trading. If common ownership leads to an increase in disclosure, then these additional disclosures should reduce information asymmetry and result in increased stock liquidity. Our study shows that common ownership is associated with lower bid-ask spreads and higher liquidity. Firms with common owners have approximately 2.5 percent lower spreads and 2.4 percent higher liquidity compared with firms without common owners.
Overall, our results suggest that there are significant benefits for investors from common ownership. It helps reduce transaction costs and increases stock liquidity. It also leads to greater transparency about firms’ practices, which provides investors with better insights about firms. While common ownership is supposed to be detrimental for consumers, it gives investors a reason to celebrate.
This post comes to us from Jihwon Park, a doctoral candidate at Harvard Business School; Jalal Sani, a doctoral candidate at Penn State University’s Smeal College of Business; Professor Nemit Shroff at MIT’s Sloan School of Management; and Professor Hal D. White at Penn State University. It is based on their recent paper, “Disclosure Incentives When Competing Firms Have Common Ownership,” available here.