ECGI Reports

Role of Controlling Shareholders: Controlling shareholders can both mitigate and exacerbate short-termism. They can prevent short-term pressures from influencing management but may also prioritize short-term gains for personal liquidity needs. The impact largely depends on the nature of the controlling shareholders and their long-term incentives​​.

Loyalty Shares as Control Mechanisms: Loyalty shares, intended to promote long-term investment, often serve as control-enhancing mechanisms for existing controlling shareholders. This can lead to a concentration of control without necessarily improving long-term company performance or increasing IPO activity​.

Escrow Contracts in Acquisitions: Escrow contracts are commonly used in acquisitions involving high transaction risks, such as private targets and cross-industry deals. These contracts reduce transaction completion time and increase target valuation, benefiting both acquirers and bidders by lowering due diligence costs and litigation expenses​​.

Economic Volatility and M&A Strategies: Economic volatility has led many organizations to reassess their M&A strategies, with joint ventures and partnerships becoming more critical. Companies increasingly focus on the human aspects of M&A, such as team integration and talent management, and are incorporating Diversity, Equity, and Inclusion (DEI) metrics into target assessments​​.

Diverse Approaches to Stewardship: Different jurisdictions approach stewardship in varied ways, influenced by their unique corporate governance structures. For example, the UK's approach emphasizes institutional ownership, while countries like Singapore focus on family ownership and have even developed a Family Stewardship Code.

Integration of ESG in Stewardship Codes: The report highlights the increasing integration of ESG considerations into stewardship codes. The UK Stewardship Code 2020, for instance, expands its scope to address systemic risks like climate change, promoting a well-functioning financial system.

Corporate and Investor Perspectives: Sandy Boss from BlackRock and Bob Eccles from Oxford University discussed the importance of sustainability disclosures in investment decisions. They highlighted the need for comparable, high-quality data and the potential of IFRS Foundation to establish a global reporting standard. Eccles also mentioned the systemic effects and the trend towards engagement and stewardship.

EU's Role and Challenges: Alain Deckers of the European Commission noted the fragmentation in sustainability reporting standards and the need for global standards to ensure reliable and relevant information. The EU's existing legal framework and the IFRS Foundation's reputation and governance structure were seen as strengths for developing these standards.

Selective Use of Literature: The report selectively references academic studies that support its views on short-termism, ignoring substantial literature that contradicts these views. This biased use of literature undermines the credibility of the report’s conclusions.

Misleading Measures and Analysis: The report’s analysis of investment trends is based on incomplete and inconsistent data. It excludes relevant companies and relies on misleading statistics, which do not accurately reflect the ability of companies to invest in long-term projects.

Critique of the EY Report's Evidence: Several scholars criticize the EY Report for using biased samples and misinterpreting data. They argue that shareholder payouts are not as high as claimed when considering equity issuances, and that investment intensity among EU firms has actually increased, suggesting the EY Report's conclusions are flawed.

Alternative Approaches to Address Short-Termism: Experts propose alternative solutions, such as enhancing ESG measurement and disclosure, promoting long-term board compensation, and facilitating shareholder engagement. They caution against legislative changes that might inadvertently harm long-term sustainability by focusing too narrowly on short-termism.

Decline in Public Listings: A panel noted the decline in public listings of family firms in the Baltics despite the importance of equity markets. Structural issues, such as market classification and visibility to institutional investors, contribute to this trend, alongside a preference for alternative financing like private equity and venture capital.

Impact of Shareholder Liquidity on Firms: Professor Janis Berzins presented research indicating that personal liquidity shocks to controlling shareholders adversely affect firm behavior, leading to increased dividend payouts at the expense of growth and performance. This highlights the interconnectedness of personal and corporate financial health.

Legal and Regulatory Adjustments: Key areas of corporate law need to be adjusted to help corporations during the crisis, including relaxing requirements for issuing new equity or debt and applying laxer director liability standards. Temporary takeover defenses were suggested to protect companies from hostile bids.

Federal Reserve's Response: The Federal Reserve's unprecedented intervention to stabilize credit markets and support the economy was praised. Recommendations included creating a standing fund for emergency lending and regulating shadow banks. The importance of supporting small and midsize enterprises was emphasized, as they constitute a significant portion of GDP and employment.

Importance of ESG Ratings: It was noted that while sustainable or low-carbon funds attract investments, there is a stark contrast in the consistency of ESG ratings compared to traditional credit ratings like those from Moody's and S&P. This inconsistency necessitates a deeper understanding of the methodologies behind ESG ratings.

Active Engagement: Evidence was presented supporting active engagement by institutional owners as a means to achieve positive outcomes. This was demonstrated through case studies and a quasi-natural experiment on Norway’s sovereign wealth fund influencing governance practices.

CEO Compensation and Short-Termism: The report addresses the issue of short-term incentives for CEOs, particularly how equity vesting can lead to a decrease in long-term investments. It also discusses the challenges of aligning CEO compensation with long-term corporate health, suggesting reforms such as performance-based vesting and post-employment shareholding requirements.

Trust-Based Corporate Models: Colin Mayer's presentation advocates for a shift from shareholder primacy to a trusteeship model, where the board manages the corporation in the interest of all stakeholders. This model is argued to potentially result in more engaged employees and customers, and less need for external regulation due to internalization of societal issues.

Best Paper Awards: The ECGI awarded prizes for the best papers in Finance and Law Working Paper Series from the previous year. The Finance Series prize went to a paper on "Investor Ideology" by Professors Bolton, Li, Ravina, and Rosenthal. The Law Series prize was awarded to Professors Bebchuk and Hirst for their paper on "Index Funds and the Future of Corporate Governance".

Corporate Governance Insights: Francisco Reynés Massanet delivered the after-dinner speech, discussing the evolving role of corporate governance. He stressed that corporate governance aims to ensure the longevity of companies by balancing profitability with broader societal impacts. Reynés also highlighted the critical relationship between the board and the CEO in achieving effective governance​.

Regulatory Approaches: Different countries have adopted various regulatory approaches to stewardship. The UK pioneered with its 2010 Stewardship Code, focusing on long-term engagement and accountability. Other countries, like Japan and South Korea, have adapted their codes to fit their unique market conditions and governance structures.

ESG Integration: Environmental, social, and governance (ESG) considerations are increasingly integrated into stewardship codes. This trend is seen as essential for promoting sustainable investment practices and addressing systemic risks. The UK and South Africa have notably incorporated ESG factors into their stewardship frameworks.

Real Effects on Firms: Firms are likely to respond to a CSR reporting mandate by altering their business operations and CSR activities. This could lead to better governance and reduced agency problems, but there might also be unintended consequences, such as the shift of certain harmful CSR activities abroad or to private firms.

Stakeholder Impacts: A wide range of stakeholders, including consumers, employees, and society at large, have legitimate interests in firms' CSR activities. Improved CSR reporting could benefit these groups, who typically have a more passive relationship with firms compared to investors.

Role of Regulation: While regulatory burdens like the Sarbanes-Oxley Act are often blamed for the decline in small public companies, the decrease in IPOs started before these regulations were implemented. Therefore, regulation alone cannot explain the reduced number of public firms​​.

Index Fund Monitoring: The rise of passive investing has impacted corporate governance. Index funds, which now hold 30% of US equities, are less incentivized to monitor firms actively. They tend to vote with management recommendations more frequently than active funds, due to the lack of performance-based compensation and the free-rider problem.

Management by AI: Dr. Martin Petrin explored the extent to which AI could manage business organizations, suggesting that AI is likely to take over administrative tasks but opinions vary on its role in non-administrative tasks like strategy and innovation. He predicted significant changes in corporate management, with an increasing intertwining of management with business analytics and IT programming.

Distributed Ledgers and Blockchain: Professor Christopher Bruner examined how emerging technologies like blockchain and AI could transform corporate governance. Distributed ledgers could enhance shareholder voting and reduce costs, while AI might automate board functions. However, Bruner noted that certain "soft" skills would likely remain under human control.

Creditor Protection Before and After Brexit: The UK's influence on corporate behavior within the EU was highlighted, especially regarding creditor protection. Brexit is expected to decrease the UK's dominance in the European corporate restructuring market, prompting further regulatory changes and harmonization efforts within the EU to ensure effective creditor protection.

Impact of Legal Reforms: Studies indicated that post-Centros legal reforms in Europe, such as reducing registration requirements, have impacted cross-border firm formation. Entrepreneurs are more likely to incorporate in jurisdictions with less stringent capital requirements, though broader corporate mobility remains limited.

Corporate Voting Behavior: The second paper examined the dynamics of shareholder voting, particularly the freerider and underdog effects, where contentious resolutions see higher participation from opposing voters. This research emphasized the need to consider these effects in the context of the new Shareholders Rights Directive in Europe.

ESG Engagement Impact: The third paper analyzed ESG (Environmental, Social, and Governance) engagement by investors, showing that such engagement can positively impact the financial performance of target companies. Factors contributing to successful engagements include the target company's market share and prior ESG scores.

Differences from Dual Class Structures: Loyalty shares are distinct from dual class shares in that they involve a single class of shares, have non-perpetual extra votes, and the voting power varies with holding periods. They are considered less transparent than dual class structures, which can lead to complexity in calculating voting rights.

Challenges and Criticisms: Issues such as the difficulty for institutional investors to register for loyalty shares in Europe, the potential for these shares to entrench management, and the practical problems with securities lending were highlighted. Critics argue that loyalty shares might serve more as control-enhancing mechanisms rather than genuinely promoting long-termism.

Legal and Oversight Implications: As AI becomes more prevalent, directors’ duties may evolve to include a baseline understanding of AI. The UK Corporate Governance Code and Companies Act 2006 mandate board oversight and risk management, which now extends to AI tools. Boards should acquire relevant AI knowledge to meet evolving legal standards.

Current Practices and Legislative Initiatives: EU and UK regulations aim to enhance shareholder engagement through better identification and participation in general meetings. Existing databases and communication methods already support this, but disparities in information disclosure persist. DLT can centralize and equalize information distribution.

Financial Protectionism and Shareholder Wealth: Darius Miller's paper examines the impact of the Foreign Investment and National Security Act of 2007 (FINSA) on M&A activity. The findings show that FINSA led to a 68% decline in foreign takeovers of affected firms, primarily in technology sectors, and resulted in a value loss of 1.12% to 2.15% for these firms.

Credit Control of Corporate Acquisitions: David Becher's study explores how creditor monitoring, particularly through covenant violations, affects acquisition decisions. Firms under creditor control due to covenant violations earn higher stock returns upon announcing acquisitions, suggesting that creditor governance can align managerial actions with shareholder interests​.

Regulatory Framework and Adoption: Loyalty voting shares are legally recognized in several countries, including the Netherlands, France, Italy, and soon Belgium. The rules for introducing these shares are generally more flexible than those for traditional dual-class structures. However, they are often introduced despite significant opposition from a majority of shareholders, primarily benefiting controlling shareholders.

Empirical Evidence and Practical Use: Empirical evidence from France and Italy shows a significant demand for loyalty voting shares. However, these shares are almost exclusively used by controlling shareholders and do not lead to increased holding periods. Instead, they serve as mechanisms for maintaining control, particularly in family firms and state-owned enterprises trying to unwind equity stakes.

Corporate Governance in Emerging Markets: Research presented by Bernard Black and Pablo Slutzky focused on corporate governance in emerging markets. Black's study showed that country-specific corporate governance indices are more effective than broad indices, while Slutzky's research highlighted the flexibility of private companies in complying with regulations, which impacts M&A patterns in emerging markets.

Index Funds and Corporate Behavior: Charles Wang's study found that firms close to being included in prestigious indices, like Japan's JPX400, tend to improve their return on equity, suggesting that firms respond to symbolic incentives. Additionally, concerns were raised about the implications of common ownership on acquisitions, executive pay, and governance.

Keynote Speech by Dr. Eckhard Cordes: During the ECGI Members’ dinner, Dr. Eckhard Cordes delivered a keynote speech, sharing his experiences from serving on thirteen boards across various countries, providing valuable insights into corporate governance from his extensive career.

Annual Lecture by Professor Antoinette Schoar: Professor Schoar presented new research on the use of personal data by financial intermediaries in the U.S. to market pre-approved credit cards. Her lecture, "Is Big Data a Challenge for Boards?", raised moral dilemmas regarding the selective selling of more expensive products to less educated customers by shrouding actual terms within marketing material.

Judgement and Discretion: The discussion touches on whether AI can exercise judgement and discretion. Susskind argues that AI can handle uncertainty by processing vast amounts of data, potentially offering better solutions than human judgement.

Narrow vs. General AI: Susskind differentiates between narrow AI, which solves specific problems, and general AI, which possesses human-like intelligence. He notes the concern over general AI's potential to self-improve and highlights the need for multidisciplinary input from philosophers, economists, lawyers, and sociologists.

Impact of Court Decisions on Political Activism: The effect of a 2010 court decision lifting bans on corporate political advocacy was examined. The study found that firms with public pension fund holdings experienced negative returns post-decision, indicating that these funds prefer traditional forms of political activism. The study also highlighted the role of institutional investors in maintaining political connections.

Institutional Investors and Freeze-out Tender Offers: The impact of institutional investors on freeze-out tender offers in Israel was analyzed. It was found that higher institutional holdings increase the likelihood of offer rejections and that institutional investors can secure better premiums for shareholders.

Regulatory Environment: Since 1992, Indian regulations related to foreign institutional ownership have progressively relaxed, making the definitions for different categories of foreign investors more liberal. Despite concerns about the short-term focus of foreign investors, there has been no significant leakage of foreign investment capital at a macro level.

Proxy Advisory Firms: Proxy advisors play a critical role in supporting institutional investors with large, geographically diverse portfolios. However, there are concerns about "lazy stewardship," where investors might follow proxy recommendations without due consideration. Indian proxy advisory firms are noted for their better understanding of local customs and practices compared to their global counterparts.

Institutional Variability: Lionel Fulton presented the institutional facts about BLER across the European Economic Area, noting significant country-specific differences in legislative frameworks. He discussed the variations in the number of employee representatives, the types of boards, and the thresholds for implementing BLER, highlighting ongoing regulatory changes and the heterogeneity in European BLER laws.

European Company (SE) Model: Horst Eidenmüller discussed the impact of the European Company (SE) model on BLER, noting that companies often reincorporate as SEs to mitigate or avoid BLER. He recommended more flexibility and freedom of contract in BLER regimes rather than a one-size-fits-all European mandate, allowing companies to experiment with different governance models.

Panel Discussion Insights: The panel, including experts from academia and industry, discussed the decline in the number of listed companies and the shift in how companies are valued, emphasizing the importance of governance and long-term relationships between asset managers and companies.

Investor Loyalty and Engagement: The report highlights the necessity for asset managers to maintain loyalty and long-term perspectives. The importance of engaging with companies to influence positive outcomes and support long-term strategies was stressed.

Trade and Merger Waves: Eric de Bodt’s analysis revealed a positive correlation between trade networks and M&A activity, where strong trade links amplify merger waves. The study highlighted that trade flows drive M&A activities, and significant global trade events influence this dynamic.

Political Influence on Antitrust Reviews: Mihir N. Mehta’s paper discussed how political connections impact antitrust reviews. M&A parties in constituencies of judiciary committee members often experience more favorable and expedited reviews, driven by lobbying and business connections rather than voter job loss concerns.

Wolf Pack Activism: Richmond Mathews introduces a model exploring how small blockholders can collectively exert influence despite their individual limitations. The concept of "wolf pack activism" illustrates how reputational concerns and strategic complementarities among fund managers enable coordinated efforts to engage with target firms, enhancing collective influence.

Venture Capital and Capital Allocation: Giorgia Piacentino's paper analyzes how venture capitalists' career concerns impact their investment decisions and market outcomes. The study finds that career-concerned VCs tend to be more conservative, rejecting high-quality startups. However, this conservatism can lead to more reliable signals in the market, reducing information asymmetry and lowering IPO underpricing​.

Impact of Short-Term Investors: Mariassunta Giannetti showed that firms with short-term institutional investors performed better in the long run after experiencing significant negative shocks, compared to firms without such investors. This underscores the potential benefits of short-term investment perspectives during periods of radical change.

State-Owned Enterprises and Environmental Engagement: Pedro Matos' research indicated that government-controlled companies are more engaged in environmental issues without compromising shareholder value. This points to the potential positive role of state ownership in promoting corporate environmental responsibility​.

Regulating Financial Innovation: The rise of shadow payment systems, including cryptocurrency exchanges and peer-to-peer platforms, presents regulatory challenges. These systems operate outside traditional banking regulations and lack central bank support, posing risks of illiquidity and loss of value for customers. Various strategies to mitigate these risks were assessed but found wanting, underscoring the need for legal and regulatory frameworks to ensure stability and liquidity.

Institutional Design and Implementation: Harmonizing conditions across fragmented EU markets presents challenges. Studies on the Market Abuse Directive and Transparency Directive showed increased market liquidity but highlighted disparities in regulatory quality across countries. Effective regulatory harmonization may require coordinated institutional changes, which are politically complex to achieve. A holistic approach to investor protection, incorporating information, conduct of business rules, and product regulation, is essential.

Gatekeepers and Their Role: Gatekeepers such as auditors, analysts, proxy advisers, and credit rating agencies play a crucial role in corporate governance. The report points out the need to examine their effectiveness, potential conflicts of interest, and the implications of who pays for their services. It suggests that further analysis is required to understand the impact of gatekeepers on market stability and corporate governance.

Regulation vs. Soft Law: The balance between hard law and soft law in regulating corporate governance is debated. The report suggests that while regulation is necessary in some cases, especially in financial institutions, soft law or standards and practices might be more appropriate for non-financial institutions. The potential risks of over-regulation and the importance of flexibility in governance practices are highlighted.

Best Practices and Recommendations: The International Corporate Governance Network (ICGN) has outlined best practices for remuneration, including independent remuneration committees, appropriate and transparent compensation structures, linking pay to performance, substantial stock ownership by executives, and avoiding payments for mere participation in mergers and acquisitions.

Disclosure and Regulation: Disclosure of executive remuneration varies across Europe, with some countries providing detailed, individualized information while others offer only aggregate data. Effective disclosure is essential for transparency and accountability, influencing shareholder decisions and aligning executive pay with performance.