The Causes and Consequences of Increased Cross-border Shareholder Activism

In a recent working paper, we look at what drives shareholder activism around the world and focus specifically on the role of corporate governance reforms.

Overview

While shareholder activism has been a force in U.S. capital markets for some time, the last decade has seen an explosion in activism globally, including in countries where activists have previously had little influence.  Our research explores what explains this growth and focuses specifically on the role of changes in regulations and laws that facilitate activism. We develop a country-level framework of regulatory characteristics that serve as necessary precursors for minority shareholders to influence firm governance. We find that the incidence of both foreign and domestic activism in a given country, as measured by the number of campaigns, increases by more than 80 percent following reforms that improve shareholder voting rights and increase board independence. Using these shareholder-empowering changes to governance regulation as shocks that increase the threat of activism, and the presence of independent institutional investors to identify high-activism-risk firms, we find that firms facing a high threat of activism reduce investment and increase payouts. We document similar effects for firms not directly targeted by activists, suggesting that firms make significant preemptive changes to avoid being targeted. Overall, our results suggest that activists serve as necessary catalysts for corporate governance reforms to effect real change in corporate policies and practices and that there are widespread spillover effects on firms not explicitly targeted by activists.

Specifics

An extensive academic literature, based primarily on U.S. data, provides evidence that activist interventions are associated with positive capital market outcomes and affect the real decisions of targeted firms. Yet, the threat of activism could have wide-ranging implications beyond targeted firms, leading many to question activism’s broader impact on corporate governance and the economy. It is difficult to assess the economy-wide impact of activism using U.S. data alone; that evidence can’t tell us what it is about the relatively static U.S. legal and institutional infrastructure that allows activists to be successful or how activism affects the broader economy beyond those firms directly targeted.

Activist shareholders’ efforts to influence companies’ policies and practices (“shareholder activism”) is now a global phenomenon. Our evidence shows that, between 2010 and 2018, 26 countries had more than 25 activism campaigns. We use a  sample of nearly 7,000 shareholder activism campaigns drawn from 55 countries between 2010 and 2018 to address two related questions. First, what regulatory conditions facilitate activism? Second, how does a country-level increase in the threat of shareholder activism, brought about by changes in shareholder-rights regulation, affect firm policies and practices and what are the implications of any such effects for broader efforts to improve corporate governance and the economy?

To speak to the first question, we investigate the role of a country’s shareholder rights provisions and corporate governance regulations in facilitating the activities of both foreign and domestic activists. In an effort to improve corporate governance and boost economic performance, many countries have enacted regulatory reforms that expand minority shareholder rights. This is important because in some countries –   most notably those in Asia – there is a view that U.S.-style institutions and governance, including a focus on shareholder rights, can help drive economic growth. However, regulatory changes are necessary but not sufficient for meaningful change. Japan has made reforms since the late 1990s, but other institutions (e.g., the courts) have blocked activists, so actual change was limited, which many argue has stifled economic growth.

To effect change, it is necessary to have a regulatory infrastructure in place that allows activist shareholders to engage in and influence the operations of the company, especially when incumbent management resists change. Because activists typically have limited capital and cannot take significant stakes in target companies, it is important that the regulatory infrastructure facilitate engagement by minority shareholders. Improving minority shareholder rights and making other complementary governance reforms (such as increasing director-independence requirements) provide mechanisms for activists to force change, especially in countries with historically weak institutions and poor governance, where there are likely to be many firms with the types of relatively low valuations and weak governance practices that activists target.

We develop a country-level framework (and associated empirical measures) of regulatory characteristics that serve as necessary precursors for minority shareholders to influence firm governance for 41 countries. This framework is based on the G20/OECD Principles of Corporate Governance as well as industry publications that describe those features of corporate governance regulation necessary for activist campaigns to succeed. Our framework covers three categories of regulation: 1) the transparency and timeliness of governance information; 2) the ease and opportunities for shareholder engagement; and 3) the independence and structure of the board of directors. The goal of our framework is to capture features of the regulatory structure that facilitate activism and so foster real change.

Our analyses show that countries with corporate governance regulations that facilitate shareholder engagement – through meeting access, compensation voting, and requirements for boards to have a relatively high proportion of independent directors with relatively short term-limits – have approximately 70 percent more activism campaigns per year than countries whose regulations lack these characteristics (about 16 more campaigns annually). Meeting and compensation transparency have little incremental explanatory power for cross-sectional variation in activism campaigns.

We use our regulatory framework as the basis for a comprehensive search for changes in corporate governance regulations for our 41 sample countries between 2010 and 2018. We identify more than 26 changes (in 22 countries) to laws in one of the three categories of shareholder-empowering regulation. Examples include: reductions in the ownership percentage required to call a shareholders’ meeting, increases in the required number of independent directors, broader dissemination of annual meeting notices and agendas, and more transparent board compensation disclosures. We find that the extent of activism in a given country, as measured by the number of campaigns, increases by more than 80 percent following reforms that increase shareholder voting rights and board independence. We find no evidence of significant changes in activism following increases in the transparency of meeting notifications or director compensation.

To speak to the second question and understand the impact of the increased threat of activism on the policies and practices of both targeted and non-targeted firms, we use the aforementioned shareholder-empowering regulatory changes as a set of plausible shocks to the threat of activism. We examine three primary firm-level outcomes: 1) profitability (i.e., Tobin’s Q and ROA), 2) long-term investment (i.e., CAPEX and R&D) and 3) payout policy (i.e., dividends and repurchases).

We find that, compared with firms facing a relatively low threat of activism, high-activism-threat targets reduce R&D by nearly 17 percent and CAPEX by 8 percent (as a proportion of total assets), and increase repurchases by 18 percent (of cash flows) and dividend payouts by 4 percent after a shareholder-empowering change to their home country’s corporate governance regulations. Tobin’s Q decreases by about 13 percent and profitability remains fairly constant. These results are similar if we focus only on firms not directly targeted by an activism campaign. On average, high-activism-risk non-targeted firms comprise about 75 percent of the sample of all non-targeted firms (and nearly 70 percent of the entire sample of publicly traded firms), which suggests that the increased threat of activism has wide-ranging implications on firms’ policies and practices beyond the firms that are actually subject to a campaign.

Overall, our results indicate that shareholder activism is a necessary catalyst for corporate governance reforms to effect meaningful changes in firms’ performance and policies and that these effects spillover to firms not explicitly targeted by activists. The overall economic impact of this increase in activism, and thus of the shareholder-empowering corporate governance reforms, is difficult to quantify. To the extent the increased activism mitigates agency conflicts, it could curb over-investment and lead to widespread improvements in firm efficiency (Brav et al. 2008; Klein and Zur 2009; Bebchuk et al. 2015; Becht et al. 2017; Brav et al. 2018). Alternatively, if the long-term investment and R&D activities that firms preemptively cut back to avoid becoming the target of a campaign have significant positive externalities, the increased threat of activist interventions could have a negative impact on the broader economy (Romer 1986; Lucas 1988; Coffee and Palia 2015). Regardless of the net benefits, such concerns are relevant to policymakers evaluating the merits of changes to corporate governance regulations.

This post comes to us from professors Mark Maffett at the University of Chicago’ Booth School of Business, Anya Nakhmurina at Yale School of Management, and Douglas J. Skinner at the University of Chicago’ Booth School of Business. It is based on their recent article, “Importing Activists: Determinants and Consequences of Increased Cross-border Shareholder Activism,” available here.

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