Can boards live up to ever-increasing institutional investors’ expectations?

With (minority) shares now concentrated in the hands of a relatively small number of institutions, institutional investors are expected to play an ever-increasing role in the governance of listed companies worldwide. However, it is uncertain whether institutional investors can actually deliver on these expectations, as a number of economic and legal factors, as well as the methods of engagement and the issues covered, can influence their propensity to engage with portfolio companies.

In a forthcoming book titled “Board-Shareholder Dialogue”, leading law, management, and finance scholars from around the world examine the theoretical underpinnings of the current governance framework as well as the relevant practices and the legal and policy issues relating to the dialogue between institutional shareholders and corporate boards.

In our introductory chapter, which was presented during the session on Boards and Shareholders at the IESE/ECGI Annual Corporate Governance Conference “Towards a New Model of Board of Directors”, we take a broad perspective on the role of institutional investors in the governance of listed companies in the U.S. and Europe and focus on the factors that may influence investors’ ability and willingness to engage.

First, we outline the phenomenon of reconcentration of share ownership in the hands of institutional investors across countries. We add to the existing literature by presenting newly collected data on the shareholdings of the 25 largest institutional investors in each of the Continental European companies included in the Euro Stoxx 50 and the 15 largest UK companies included in the FTSE 100. We find that leading institutional investors are among the largest shareholders in most of the companies in the sample and that an asset manager is the largest shareholder in most of them. As controlled companies have a lower weight in the index because the STOXX 50 index is weighted by the free float market capitalisation of companies, the size of the shareholdings of the Big Three – BlackRock, Vanguard, State Street – is smaller in companies with a controlling shareholder.

Second, we track asset managers’ ownership and nationality as these may lead to a divergence in the incentive structure for shareholder engagement on both sides of the Atlantic and, in particular, may help explain potential conflicts of interest affecting asset managers’ willingness to engage. To complement available anecdotal evidence showing that European asset managers controlled by banking or insurance companies do conduct a significant number of engagements covering a wide range of ESG issues, we present ownership data on the top 20 U.S. asset managers and the top 20 European (EU and UK) asset managers, tracking their weight in Stoxx 50 companies and the top fifteen FTSE 100 companies. We find that bank-owned asset managers are the largest category among the largest EU asset managers.  In contrast, large institutions that are publicly traded or are not part of insurance or banking groups are much more common in the U.S. American asset managers not belonging to insurance or banking groups, with the exception of Vanguard, all have other top asset managers among their largest shareholders. Whether such common ownership can influence asset managers’ approach to engagement, particularly on social and environmental issues, is controverted. According to a first view, common ownership explains why major asset managers share common ESG preferences and regularly engage on these topics. An alternative point of view is that common ownership in the asset management industry is too low to influence the preferences and behaviour of leading investors.

To assess whether asset manager ownership affects engagement, we also look into the distribution of assets under management by asset manager ownership category. We find that publicly owned asset managers and those not belonging to insurance or banking groups hold, on average, significantly larger stakes in companies included in our sample than bank- and insurance-owned asset managers.

In terms of nationality, the blocks held by top U.S. investors are larger (in many cases, by far) than those held by top European investors in all the companies in our sample.  On average, the U.S. asset managers included in our sample own 15.56 percent of the equity, while the European institutional shareholders in the sample own a mere 5.71 percent.

Finally, we consider factors other than ownership and nationality that may affect the actual ability and willingness of asset managers to engage with investee companies. In addition to cost issues and collective action problems, which have been widely explored in the literature, end-client preferences and potential regulatory backlash appear to be crucial.

Against this background, the different degree of political consensus over ESG investing on the two sides of the Atlantic, and the backlash ESG is facing in the U.S., help explain why European asset managers are keener to engage on ESG issues and to support ESG-related resolutions than are their U.S.-based competitors. Indeed, the political risk arising from the ESG backlash may affect the stewardship strategies of U.S. asset managers by pushing them to adopt a less ESG-friendly approach.

-------------------------------

By Luca Enriques, University of Oxford, Faculty of Law, Giovanni Strampelli, Bocconi University

The ECGI does not, consistent with its constitutional purpose, have a view or opinion. If you wish to respond to this article, you can submit a blog article or 'letter to the editor' by clicking here.