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E-MailJohn G. Matsusaka is Charles F. Sexton Chair in American Enterprise, Professor of Finance and Business Economics at the University of Southern California Marshall School of Business. This post is based on a recent paper authored by Professor Matsusaka; Oguzhan Ozbas, Associate Professor of Finance at USC Marshall School of Business; and Irene Yi.
Corporate managers, by and large, are skeptical of shareholder proposals. A shareholder proposal, placed in the proxy statement by an activist shareholder, allows shareholders as a group to vote on a change in the company’s bylaws or advise management to alter company policies. Managers routinely resist expanded use of shareholder proposals, both through organizations that seek to influence regulations such as the Business Roundtable, and by seeking to omit individual proposals from the company’s proxy statement using the SEC’s no-action letter process.
The reason managers fight shareholder proposals is a matter of some dispute. The “responsible manager” view is that shareholder proposals are harmful to the firm; they distract managers, disrupt the company’s operations, and in some cases are designed to push the company in a direction that benefits special interest shareholders such as labor unions, public pensions, and environmental groups. The underlying logic of this view has a long tradition in the law, and is the basis for the business judgement rule that presumes shareholders are less informed about the company than managers, and that managers are acting in the best interest of shareholders. The “self-interested manager” view, in contrast, is that shareholder proposals increase firm value, and that managers resist them in order to protect corporate practices that serve their private interests. The underlying logic of this view also has a long tradition, dating back at least to Berle and Means, who argued in The Modern Corporation and Private Property (1932) that separation of ownership and control in the modern corporation allows managers substantial leeway to pursue their own interests at the cost of shareholder wealth.
Our study attempts to shed light on the motives of managers who fight shareholder proposals, by estimating how a company’s stock price responds when the SEC allows a company to exclude a proposal from the proxy statement. SEC Rule 14a-8 includes a list of conditions under which proposals can be omitted from the proxy statement, e.g., failure of the proponent to demonstrate minimum stock ownership, the proposal relates to redress of a personal grievance, or the proposal deals with ordinary business operations. If a company wishes to omit a proposal, it submits a letter to the SEC asking the staff to confirm that the agency will not take action against the company if the proposal is omitted, called a request for a “no-action letter.” In our sample, companies seek to exclude 31 percent of proposals that they receive, and the SEC grants a no-action letter permitting omission in about 67 percent of cases. Our research strategy is to estimate the stock price reaction following SEC no-action letter decisions. Because the existence of the proposal is known to the market before the decision, if managers resist proposals for “responsible” (value-maximizing) reasons, then we should observe a positive market reaction when the SEC allows a proposal to be omitted; if managers resist proposals for “self-interested” (value-destroying) reasons, then we should observe a negative market reaction when the SEC allows a proposal to be omitted.
We study hand-collected data on all 2,774 proposals for which a no-action letter was requested during the period 2007–2016. Our main finding is that the market responded positively to the grant of a no-action letter. The average cumulative abnormal return ranged from 0.2 percent to 0.9 percent depending on the event window and method of adjusting for expected returns, and is distinguishable from zero statistically. The finding of a positive return is robust to eliminating extreme observations, and controls for overlapping decisions. In terms of the motivating question, the evidence is consistent with the view that managers fight these proposals because they are in fact harmful to the firm. Our finding describes the average market response, and does not preclude the possibility that some managers fight proposals for selfish reasons.
Beyond this basic finding, we also examine to what extent the market’s reaction depends on the subject of the proposal and the identity of the proposal’s sponsor. Grouping proposals into general topics, we find a significant negative implied value for corporate governance proposals (that is, the market responds positively to the SEC staff’s decision to allow omission of such proposals). We do not find significantly nonzero implied values for proposals related to compensation as a group, or social issues as a group. We find a significantly negative market assessment of proposals that would increase the G-Index and E-Index.
Looking at sponsors, recent court rulings and some scholarly research suggest that certain types of shareholders, such as labor unions and public pensions, may use proposals to advance their narrow interests rather than overall firm value. The market’s reaction to no-action letter decisions suggests that investors dislike proposals from individual shareholders—so-called “gadflies”—but is not negative about proposals from unions or public pensions on average.
The legal environment has been moving steadily in the direction of expanded shareholder rights, giving the impression of a consensus that enhanced rights are beneficial, yet the rigorous evidence is surprisingly inconclusive. About a dozen articles seek to estimate the market’s reaction to shareholder proposals, almost all of which fail to find a significant response. A natural question is what explains the difference between our findings and the rest of the literature? We suspect the main difference is that previous studies attempt to estimate the value of proposals by examining price movements around the date that the proxy statement is mailed or the date of the annual meeting. The problem is that in order to make a proposal, a shareholder must send a notice to the company at least 120 days before the proxy statement is mailed; companies must file their proxies with the SEC 10 days before mailing them; and the SEC immediately makes them public. So the existence of proposal is likely to be known by the market well before the proxy is mailed or the annual meeting is held, leading to no price movement on those dates. By using no-action letter decisions, we are able to isolate a precise date at which new information about the prospects of a proposal is made public.
The full paper is available for download here.
