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E-MailAlex Edmans is Professor of Finance at London Business School and Clifford G. Holderness is Professor of Finance at the Boston College Carroll School of Management. This post is based on a recent paper by Professors Edmans and Holderness. Related research from the Program on Corporate Governance includes The Law and Economics of Blockholder Disclosure by Lucian Bebchuk and Robert J. Jackson Jr. (discussed on the Forum here), and Pre-Disclosure Accumulations by Activist Investors: Evidence and Policy by Lucian Bebchuk, Alon Brav, Robert J. Jackson Jr., and Wei Jiang.
Our new paper, Blockholders: a Survey of Theory and Evidence, surveys the role of large shareholders in corporate governance. We start by analyzing the underlying property rights of public corporations and blockholders. How are public corporations similar to other forms of private property and how are they different? We then define a blockholder by discussing what distinguishes it from an ordinary shareholder. Next, we present new evidence on the frequency, size, and board representation of blockholders in United States corporations and the resulting association with firm characteristics. We then develop a simple unifying model to present theories of blockholder governance through two channels. The first, traditional channel is direct intervention in a firm’s operations, otherwise known as “voice.” These theories have motivated empirical research on the determinants and consequences of activism. The second, more recent channel is selling one’s shares if the manager underperforms, otherwise known as “exit.” These theories give rise to new empirical studies on the two-way relationship between blockholders and financial markets, linking corporate finance with asset pricing. We survey the empirical evidence on blockholder governance and close with suggestions for future research.
Our major conclusions are as follows:
- Blockholders are ubiquitous. Virtually every corporation, of every size, in every country has them. It is hard to imagine how firms could survive in a market economy without large shareholders. In short, they are important to study.
- There is no unambiguous definition of a blockholder. There is no theoretical basis for the commonly used 5% threshold or indeed any threshold. Future research should study blocks below 5% when possible.
- The dollar value of a block or the concentration of the block in an investor’s portfolio could matter as much as the percentage value of a block. These are much-neglected topics ripe for study.
- Blockholders are endogenous. We know of no known credible instruments for block ownership. Insistence on clean identification will result in a focus on narrow questions or the avoidance of research on blockholders altogether; studies should be led by economics, not econometrics. Much can be learned by careful analyses of blockholders in different settings using a variety of methods. Descriptive analyses can be illuminating if researchers are careful not to make causal claims.
- Blockholders are heterogeneous: they include hedge funds, mutual funds, pension funds, individuals, and other corporations. Each has its own determinants, incentives, and consequences. Most research, however, treats all blockholders as homogenous.
- Blockholders interact. Although existing research often considers blockholders in isolation, the presence of one blockholder can increase or decrease the effectiveness of other blockholders or even smaller shareholders. Moreover, the direction of complementarity likely varies by blockholder type. For example, an activist blockholder may deter the entry of a second activist, but she may be catalyzed by non-activist blockholders who can potentially vote in the same direction.
- Blockholders are evolving. For example, institutional investors today are more willing to be hostile toward management than they were only 30 years ago.
- Blockholders can govern through exit, not just through voice. This new way of thinking about blockholders—as informed traders, rather than just as controlling entities—gives rise to new directions for both theoretical and empirical research. Blockholders can both impact and be impacted by financial markets, thereby linking asset pricing with corporate finance.
- Blockholders can exert governance through the threat of exit and voice, rather than only through actual exit and voice. The absence of these actions, therefore, does not imply the absence of blockholder governance. Identifying such threats and their effect on firm outcomes is challenging but important.
The full paper is available for download here.
