The following post comes to us from Yonca Ertimur of the Accounting Division at the University of Colorado at Boulder; Fabrizio Ferri of the Accounting Division at Columbia University; and David Oesch of the Department of Financial Accounting at the University of Zurich.
In the paper Understanding Director Elections: Determinants and Consequences, which was recently made publicly available on SSRN, we provide an in-depth examination of uncontested director elections. Using a hand-collected and comprehensive sample for director elections held at S&P 500 firms over the 2003–2010 period, we examine the factors driving shareholder votes in uncontested director elections, the effect of these votes on firms’ actions and the impact of these actions on firm value. We make three contributions.
First, it is well known that recommendations by the proxy advisory firm Institutional Shareholder Services (ISS) play a key role in determining the voting outcome. Yet, the question of what factors drive ISS recommendations and, thus, shareholder votes in uncontested director elections remains largely unanswered. To fill this gap, we use the reports ISS releases to its clients ahead of the annual meeting and identify the specific reasons underlying negative ISS recommendations. We find that 38.1% of the negative recommendations target individual directors (reflecting concerns with independence, meeting attendance and number of directorships), 28.6% target an entire committee (usually the compensation committee), and the remaining 33.3% target the entire board (mostly for lack of responsiveness to shareholder proposals receiving a majority vote in the past). A withhold recommendation by ISS is associated with about 20% more votes withheld, in line with prior research. More relevant to our study, there is substantial variation in votes withheld from directors conditional on the underlying reason. A board-level ISS withhold recommendation is associated with 25.48% more votes withheld, versus 19.73% and 16.44%, respectively, for committee- and individual-level withhold recommendations. The sensitivity of shareholder votes to ISS withhold recommendations is higher when there are multiple reasons underlying the withhold recommendation for the director (a proxy for more severe concerns) and at firms with poorer governance structures. These results suggest that shareholders do not blindly follow ISS recommendations but seem to take into account their rationale, their severity and other contextual factors (e.g. governance of the firm). However, cases of high votes withheld without a negative proxy advisor recommendation are rare, suggesting that voting shareholders only focus on the issues singled out by proxy advisors, potentially at the expense of other value-relevant factors (e.g. directors’ skill set, expertise and experience) for which proxy advisors have not (yet) developed voting guidelines (perhaps due to lack of sophistication or the inherent complexity of the issue).
