The Limits of Enlightened Shareholder Activism

One of the more visible market shifts over the past decade is the rise of what might be called “enlightened shareholder activism” – the use of shareholders’ governance rights to encourage corporations to take action around environmental, social, and governance (“ESG”) concerns.  A prominent example is the successful campaign in 2021 of “Engine No. 1,” an impact-investing hedge fund that put three directors on the board of ExxonMobil.  The 2022 proxy season seems poised to be another where ESG proposals gain strong support from investors.  

Enlightened shareholder activism has been fueled by regulatory and market changes that have strengthened shareholder power at a time when investors and regulators are asking companies to pay more attention to emerging ESG risks, including climate-related risk, cybersecurity risk, and workforce issues that came to the fore during the pandemic.

All of these trends raise questions about whether we are really witnessing a fundamental change in the nature and goals of shareholder activism, and if so, whether investors can move companies toward more sustainable business practice and greater corporate accountability.

In a recent essay, I argue that we should not expect a fundamental shift away from the core economic focus of ESG among mainstream investors.  The current embrace of ESG by investors globally offers real promise that shareholders can push corporate boards to respond more boldly and proactively to ESG risks. But the incentives and fiduciary duties of most institutional investors and asset managers limit their activism to ESG concerns (like climate risk) and strategies (like policy statements) that can be justified in financial terms.  The legal regimes that bound shareholder activism are also designed to protect investors and advance other market-oriented goals.  This reality limits the potential for investors to affect corporate behavior.

This points to a core tension surrounding ESG.  Although ESG can have an impact on firm- and portfolio-level risk and return and is closely tied to corporate risk oversight and portfolio risk management, the reason ESG-oriented activism has attracted so much attention from policymakers and commentators is not because it is expected to drive better corporate financial performance.  Instead, the hope is that shareholder ESG monitoring and investor pressure around ESG issues will change corporate practice by, for instance, preventing corporate harms and pushing companies to internalize more of the environmental and social costs of their operations.

But if these are the most distinctive and most promising goals of ESG activism, then, unfortunately, these hopes are likely misplaced.  The limits of the business case for enlightened shareholder activism suggest that more robust and creative regulatory approaches may be necessary to achieve these goals.

Implications for Policymakers

One key implication of these observations is that policymakers cannot abdicate to shareholders the responsibility for driving corporate responses to climate change or setting higher corporate environmental or workforce standards.  Second, as I have argued separately, investors’ ESG expectations make more urgent the need for mandatory corporate reporting that meets their need for investment-grade information about corporate ESG risks and opportunities.  The SEC’s new proposed rules on climate disclosure and cybersecurity risk disclosure are steps in this direction.  Only by making better ESG information available to the market can regulators’ efforts to clarify institutional investor fiduciary duties, address investment-intermediary conflicts of interest, and reduce “greenwashing” in the market for ESG investment products succeed. Finally, relying on shareholder activism to drive better corporate governance and responsible corporate practice will require greater consideration of the alignment and tensions between these goals and how to balance investor empowerment and accountability in achieving them.  I therefore argue that the call to reexamine the values and interests that motivate shareholder activism is critically important in the ongoing debate about shareholder influence and what it might achieve.

This post comes to us from Professor Virginia Harper Ho at City University of Hong Kong School of Law. It is based on her recent article, “The Limits of Enlightened Shareholder Activism,” available here and forthcoming in the International Journal for Financial Services/Revue Internationale des Services Financiers.

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