Why Do Investors Vote Against Corporate Directors?

Reena Aggarwal is the Robert E. McDonough Professor of Finance and Director, Georgetown Center for Financial Markets and Policy, Sandeep Dahiya is the Akkaway Professor of Entrepreneurship, and Umit Yilmaz is a Postdoctoral Fellow at Georgetown University.This post is based on their recent paper. Related research from the Program on Corporate Governance includes The Myth of the Shareholder Franchise (discussed on the Forum here) by Lucian Bebchuk and Universal Proxies (discussed on the Forum here) by Scott Hirst.

Voting against management-nominated directors is an important mechanism for institutional investors to convey their dissatisfaction with a wide array of corporate policies and performance. Our study shows that the role of directors has evolved into a more complex one over the years. Nowadays, investors hold individual directors accountable for new and emerging issues, such as board diversity and climate change, which have gained significant attention compared to the past.

In this evolving landscape, our research offers valuable insights into how institutional investors voice their discontent regarding a firm’s policies on these novel, broader issues. We examine the voting outcomes for uncontested director elections at public firms within the Russell 3000 Index from 2013 to 2021. Our findings indicate that while environment and social issues, in general, are not related to voting outcome, governance plays a crucial role. However, within the broader environmental category, we find that the climate change component is significantly associated with voting outcome stemming from issues related to carbon emissions, product carbon footprint, financing environmental impact, and climate change vulnerability. Climate change has emerged as a concern for investors, attracting attention from institutional investors due to its material impact on firm performance and valuation, especially in industries like fossil fuel extraction. Notably, in 2021, activist investor Engine No. 1 succeeded in pushing for new directors on ExxonMobil’s board to reduce its carbon footprint, garnering support from major institutional investors like BlackRock, State Street, and Vanguard. Similarly, in 2022, CalPers voted against 95 directors at 26 companies due to climate-related concerns. However, none of the social subcategories (e.g., human capital and product liabilities) are linked to voting outcomes.

Our study uses a comprehensive proxy for governance, incorporating numerous factors such as board diversity, skills and expertise, accounting practices, business ethics, and tax transparency than governance measures used in previous studies like the Entrenchment Index (E-Index) by Bebchuk, Cohen, and Ferrell (2009). During our sample period, we find no correlation between the E-Index and the governance proxy we use (MSCI governance score). Furthermore, our results hold even after controlling for the E-Index, suggesting that directors are now held accountable for a broader set of issues beyond shareholder rights and anti-takeover provisions.

The MSCI governance score captures two broad themes: corporate governance structure and corporate behavior. The corporate governance structure theme includes aspects like board diversity, tenure, size, and expertise, while the corporate behavior theme encompasses business ethics and tax transparency. Our research shows that corporate governance structure, rather than corporate behavior, is related with voting outcomes. Investors and regulators worldwide have demanded an increase in diversity on corporate boards. The three large institutional investors, BlackRock, State Street, and Vanguard, each launched campaigns to increase gender diversity on corporate boards in 2017. These campaigns have resulted in more diverse boards in the last few years with female board members now making up more than 25% of the board in 2021 compared to about 10% in 2013. We find that directors at firms with lower female board representation receive less investor support from investors, with this lack mainly impacting male directors facing elections largely limited to male directors facing elections. This contrasts with earlier focusing on earlier sample periods, which did not find significant gender effects on voting outcomes.

In recent years, some large institutional investors, including mutual funds, pension funds, university endowments have voluntarily started to provide rationale for their voting decisions. Utilizing a unique dataset that directly identifies the reasons for institutional investors voting against directors, we find that board diversity is the most commonly cited reason for voting against management-sponsored director election proposals. Directors in firms with less diverse boards receive less support from shareholders, and the members of the nominating committee are particularly held responsible for the lack of board diversity, receiving even fewer votes. Other frequently cited reasons include board independence, director tenure, and busyness, all of which lead to reduced support for directors.

The board comprises of both executive and non-executive members, with the CEO of a company being a non-independent director who does not serve on the audit committee, nominating and governance committee, or the compensation committee. Our research indicates that CEO directors are less likely to receive dissenting votes.

While shareholders have the option to express dissatisfaction through shareholder-sponsored proposals, these proposals are relatively infrequent compared to management-sponsored ones. We find that the mere presence of a shareholder proposal is associated with lower support for directors, primarily influenced by governance proposals and not socially responsible proposals.

The voting outcomes have tangible consequences for directors in terms of higher turnover, limited committee assignments, and fewer opportunities for directorships at other firms as shown by Aggarwal, Dahiya, and Prabhala (2019). Our results suggest that large institutional investors are not merely greenwashing on issues of climate change and diversity, but are leveraging their voting power when they have concerns.

The full research paper can be found here.

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