Is there a competition for corporate charters in Europe? Corporate and comparative scholars have been discussing the similarities between the Delaware-led competition in the United States with the slowly emerging market for corporate legal forms in the European Union.

In my recent paper, Corporate Mobility in the European Union – a Flash in the Pan? An empirical study on the success of lawmaking and regulatory competition, recently made available on SSRN, I provide new empirical evidence on the development of the market for incorporations in Europe, and on the impact of national law reforms.

Since the seminal Centros case in 1999, European entrepreneurs have been allowed to select foreign legal forms to govern their affairs. While much academic effort has been spent to evaluate the early market reactions to this case-law, effectively opening up the European market, relatively little attention has been devoted to subsequent developments. This is surprising, since the various national lawmakers’ responses to the wave of entrepreneurial migration offer a rare glimpse on the effects of regulatory competition and subsequent business’ reaction, as well as on the relevance and effects of lawmaking and regulatory responses to market pressure.

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My newest book, Citizens DisUnited: Passive Investors, Drone CEOs and the Corporate Capture of the American Dream, has been in the works for the last year, and is really the culmination of thirty years of work in corporate governance, activism and government. It was prompted by frustrations and failures, in many ways. But it was through those frustrations that I gained clarity on the problems facing our nation. Not just problems in the boardroom but the larger issues of power that tie corporations to the power structure in Washington and how it affects our society. The specific thoughts that led to this book began almost two years ago with a speech I gave at ICGN in Paris and are further illuminated in some new research done for the book by GMIRatings’ Ric Marshall.

In the course of planning the book, I had begun to think of some corporations as “drones” – in the sense that they are untethered from reality and responsibility. We define them as corporations, “in which no single shareholder retains a principal position, defined by the SEC as 10 percent or more.” The owners aren’t at the helm — but manager-kings are. And there are no limits to prevent these CEOs from enriching themselves at the shareholder expense or from shifting the burden of externalities onto society.

Ric, in the meantime, had begun to find empirical data that showed that,

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In the paper, The Sensitivity of Corporate Cash Holdings to Corporate Governance, forthcoming in the Review of Financial Studies, my co-authors (Qi Chen, Xiao Chen, Yongxin Xu, and Jian Xue) and I analyze the change in cash holdings of a large sample of Chinese-listed firms associated with the split share structure reform that required nontradable shares held by controlling shareholders to be converted to tradable shares, subject to shareholder approval and adequate compensation to tradable shareholders. The reform removed a substantial market friction and gave controlling shareholders a clear incentive to care about share prices, because they could benefit from share value increases by selling some of their shares for cash.

We predict and find that this governance improvement led to reduced cash holdings of affected firms, and that the effect is more pronounced for private firms than for state-owned enterprises (SOEs), for firms with more agency conflicts, and for firms for which financial constraints are most binding. We interpret these results as consistent with both a direct free cash flow channel and an indirect financial constraint channel. These results are robust to several alternative specifications that address concerns about endogeneity and concomitant effects. They provide strong evidence that governance arrangements affect firms’ cash holdings and cash management behaviors. To the extent that cash management is a key operational decision that affects firm value, our findings suggest an important mechanism for corporate governance to affect firm value.

…continue reading: The Sensitivity of Corporate Cash Holdings to Corporate Governance

In the paper, Corporate Law and the Team Production Problem, which was recently made publicly available on SSRN, I discuss an alternative framework to the principal-agent model for understanding corporate law. For much of the last three decades, the dominant perspective in corporate law scholarship and policy debates about corporate governance has adopted the view that the sole purpose of the corporation is maximizing share value for corporate shareholders. But the corporate scandals of 2001 and 2002, followed by the disastrous performance of financial markets in 2007-2009, have left many observers uneasy about this prescription. Prominent advocates of shareholder primacy such as Michael Jensen, Jack Welch, and Harvard’s Lucian Bebchuk have backed away from the idea that maximizing share value always and everywhere has the effect of maximizing the total social value of the firm. Shareholders, they concede, may often have incentives to take on too much risk, thereby increasing the share of firm value they capture by imposing costs on creditors, employees, taxpayers, and the economy as a whole.

In response to the problems with shareholder primacy revealed by corporate and financial market crises in recent years, some scholars and practitioners have considered the “team production” framework for understanding the social and economic role of corporations and corporate law (Blair and Stout, 1999) as a viable alternative. Whereas the principal-agent framework provided a strong justification for the focus on share value, the team production framework can be seen as a generalization of the principal-agent problem that is symmetric: all of the participants in a common enterprise have reasons to want all of the other participants to cooperate fully. A team production analysis thus starts with a broader assumption that all of the participants hope to benefit from their involvement in the corporate enterprise, and that all have an interest in finding a governance arrangement that is effective at eliciting support and cooperation from all of the participants whose contributions are important to the success of the joint enterprise. A team production-based analysis of corporate law then points to a number of features of corporate law and the corporate form that do not seem consistent with shareholder primacy but that may provide a workable solution to the team production problem.

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In our paper, Corporate Governance Reforms and Cross-Border Acquisitions, which was recently made publicly available on SSRN, we investigate how investor protection affects the allocation of foreign capital inflows at the firm level. A simple model provides an explanation for a well-documented but little understood phenomenon on international capital flows—the tendency of foreign investors to target better-performing firms in emerging markets.

When a foreign acquirer‘s country has stronger IP than a target country, the acquirer‘s controlling shareholder values control premiums less than controlling shareholders of local firms because stronger IP imposes greater constraints on diversion for private benefits. Within the target country, controlling shareholders of firms with more profitable investments take fewer private benefits and, hence, demand lower control premiums. Foreign acquirers, which value control premiums less, will target firms with more profitable investments. This cherry picking tendency will intensify (moderate) as the IP gap between the acquirer and target countries increases (decreases).

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In my paper, The Plight of the Individual Investor in Securities Class Actions, forthcoming in the Northwestern University Law Review, I offer a reassessment of both federal and Delaware law favoring the selection of institutional investors as lead plaintiffs in securities or transactional class actions. While it is clear that institutional investor lead plaintiffs have brought numerous benefits to class members, their influence has also marginalized the interests of individual investors. I identify four persistent sources of conflict between institutional and individual investors. These include derivatives trading, corporate governance reform, conflicts between selling and holding plaintiffs, and, in the transactional context, conflicts created when institutional investors own a stake in both target and bidder companies. I argue that in many instances, these conflicts render institutional lead plaintiffs atypical and inadequate class representatives, in contravention of the requirements of Fed. R. Civ. P. 23 and its state equivalents. To allay these concerns, I suggest that the optimal solution is for courts to appoint representative individuals as co-lead plaintiffs with the presumptive institutional lead plaintiffs.

…continue reading: Resolving Conflicts Between Institutional and Individual Investors in Securities Class Actions

In our paper Does Governance Travel Around the World? Evidence from Institutional Investors, forthcoming in the Journal of Financial Economics, we examine whether institutional investors affect corporate governance by analyzing portfolio holdings of institutions in companies from 23 countries during the period 2003-2008.

We find that international institutional investors export good corporate governance practices around the world. In particular, foreign institutional investors and institutions from countries with strong shareholder protection are the main promoters of good governance outside of the U.S. Our results are stronger for firms located in civil-law countries. Thus, international institutional investment is especially effective in improving governance when the investor protection in the institution’s home country is stronger than the one in the portfolio firm’s country.

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In the paper, The Market Reaction to Corporate Governance Regulation, which was recently made publicly available on SSRN, we investigate the market reaction to recent legislative and regulatory actions pertaining to corporate governance. The managerial power view of governance suggests that executive pay, the existing process of proxy access, and various governance provisions (e.g., staggered boards and CEO-chairman duality) are associated with managerial rent extraction. This perspective predicts that broad government actions that reduce executive pay, increase proxy access, and ban such governance provisions are value enhancing. In contrast, another view of governance suggests that observed governance choices are the result of value-maximizing contracts between shareholders and management. This perspective predicts that broad government actions that regulate such governance choices are value destroying.

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In a recent Corporate Governance Commentary, titled “The Parallel Universes of Institutional Investing and Institutional Voting, [1]” we observed the increasing discontinuity at most institutional equity investors between the persons who make the buy and sell decisions (or who create and maintain the quantitative models that make those decisions) and those who make the decisions on how to vote portfolio shares. We analogized the separation of the two functions to parallel universes to highlight the autonomous nature of each function. While we noted that this pattern is not universal among institutional equity investors, we stated our belief that it is the prevailing method by which institutional investors solve the financial dilemma created by the large, and for some institutions literally overwhelming, number of votes they are required to cast each proxy season by the federal government’s imposition of a fiduciary duty to vote all portfolio shares on all matters brought to shareholders.

…continue reading: The Future of Institutional Share Voting: Three Paradigms

Streams of recommendations have begun to flow from bodies tasked with remedying the persistent problem of institutional investor passivity and short-termism. While the suggestions of the Institutional Shareholders’ Committee (ISC) and Walker Review are generally sensible, they are incomplete because significant asset owner issues remain unresolved. Until the root causes – particularly the inability of pension funds and other institutional asset owners to robustly monitor asset managers and the misalignment of interest between the two parties – are tackled head-on, reforms in this area will have limited impact.

Current reform efforts assume that asset owners maintain a strong interest in, and possess capabilities to meaningfully evaluate, their fund managers’ corporate governance activities. Many don’t.

To fulfill obligations under the Myners Principles to monitor fund managers’ adherence to the ISC Statement of Principles on the Responsibilities of Institutional Shareholders and Agents, many asset owners ask their investment managers the following annually: “Does your firm comply with the ISC Principles?” It is disconcerting that a perfunctory “yes” is often a sufficient response. Equally worrying, this exercise frequently transpires between the owner’s pension consultants and the manager’s client relationship team. Little or no effort is made by pension fund trustees or staff to speak directly with investment firm personnel who vote and engage on their behalf to discuss successful and problematic interventions, sufficiency of allocated resources, and areas for improvement.

…continue reading: Tackling the Root Causes of Shareholder Passivity and Short-Termism