New Center Research Project:
“Cross-Border Voting and the Efficiency of
This project is a research collaboration between the Lindenauer Center for
Corporate Governance at the Tuck School of Business, Dartmouth College (USA),
and NBIM – the manager of Norway’s Sovereign Wealth Fund.
- Fundamentals of Share-Voting
- The Tuck/NBIM Collaboration
- Main Project Focus
Institutional shareholders around the world increasingly use active share-voting to protect their portfolio investments and improve corporate governance. However, exercising voting rights involves costly and often arcane country-specific legal rules. As explained below, this research project examines the potential for increased harmonization of cross-border share-voting systems and proxy voting in the U.S. and Member States of the European Union (EU). The research describes share-registration systems and voting chains for publicly traded companies. It highlights voting impediments and discusses recent EU regulatory attempts to make the voting process both more efficient and conforming to the 2007 EU Shareholder Rights Directive. Moreover, the project provides new and original empirical evidence on how listed firms in various countries have adapted to their respective local share-voting systems.
The project publishes its results and findings on an ongoing basis through individual country reports. The reports are expected to be completed in 2011, and will form the basis for a conference on cross-border share voting by large institutional investors. The first completed report, on Italy’s voting system, can now be downloaded from the Social Science Research Network’s Electronic Paper Collection (SSRN), at http://ssrn.com/abstract=1431733
Our second country report, on Sweden's voting system, can now be downloaded from the Social Science Research Network’s Electronic Paper Collection (SSRN), at http://ssrn.com/abstract=1651582.
Beneficial owners of common shares in a limited liability company (shareholders) have only minimal contractual rights. For example, unlike owners of debt contracts, stockholders cannot put the company in bankruptcy, nor can they require company disbursements (such as dividends). Shareholders who are unhappy with the current management of the company have basically two options: sell (“the Wall Street Walk") or exercise voting rights in order to elect directors better able to protect shareholder interests. The first option requires a deep and liquid stock market and is becoming increasingly impractical for large institutional owners such as hedge funds, pension funds, and sovereign wealth funds.
Unfortunately, the second option – voting – is fraught with obstacles and costly impediments. First and foremost, it requires shareholders to be sufficiently informed about company management policies to pass an independent judgment on management and director quality. Arriving at an independent opinion requires committing time and resources which quickly become prohibitive for smaller shareholders. Thus, small shareholders rationally do not exercise their votes.
Furthermore, even many large shareholders have historically elected not to vote – or simply to passively cast their votes in favor of management. This passive approach to voting reflects a number of reasons, ranging from outright regulatory roadblocks on voting facing certain institutional owners, to the classical “free rider" problem: while the cost of voting is borne by the voting shareholder only, the benefits are shared also with shareholders who do not vote, encouraging some shareholders to free-ride on the voting effort of others.
When large blocks of votes passively favor management, the corporate governance system suffers. Poor governance accentuates the potential for costly conflicts of interest between shareholders and their agents (managers and directors), and between large and small shareholders. Such conflicts result in various forms of shareholder wealth expropriation. Firms pay up front for market concerns with wealth expropriation through a higher cost of equity and debt capital, which in turn stifles economic activity. The risk of expropriation generally depends on a country's legal and political system with the associated constraints on various forms of self-dealing.
While all countries find it optimal to allow some form of self-dealing within the law, systems vary greatly in terms of (1) how such “garden variety" conflicted transactions are flagged and approved up front, (2) which parties are entitled to receive information, and (3) the opportunities for and costs of reversing the transactions through legal action after they occur. Since resorting to the court system is expensive, a more cost-effective approach to minimize the costs of garden-variety self-dealing is often to strengthen the shareholder vote. With this in mind, institutional investors are increasingly exercising their option to vote in stock markets around the world.
The Lindenauer Center for Corporate Governance was founded in 1999 by Tuck’s professor B. Espen Eckbo (a native of Norway). The center was then – and continues today – to be the only research center for corporate governance issues among top business schools (Dartmouth College is an Ivy-league university and Tuck’s MBA program consistently ranks among the top five in the world). Thus, Tuck is a natural partner for NBIM in its discussion of corporate governance issues, such as cross-border voting impediments.
NBIM is today the world’s largest sovereign wealth fund measured by the fund’s investment in world equity markets. NBIM is required by law to invest the entire fund outside of Norway. Moreover, also by decree, NBIM must follow a highly diversified investment policy. As a result, the fund holds shares in a large number (currently eight thousand) of companies listed on the most liquid stock markets around the world. Over the past decade, NBIM has increasingly implemented a policy of engaging in active share-voting around the world. This experience has highlighted inefficiencies of voting systems and the potential for improvements.
The project focuses in particular on share-voting systems in countries where NBIM is heavily invested, as measured by the collar value of the country weight in its world portfolio. These countries include France, Germany, Italy, Sweden, Switzerland, the UK, and the US. In addition, because Norway is one of the few countries mandating a centralized share registration system, we include Norway's system in the overall analysis as well although NBIM does not invest there.
For each of these countries, the project produces a detailed technical description on the country's voting system, as described by the existing legal rules and regulations. This description has value in of itself as there is currently no uniform set of system descriptions available in the English language covering all of the countries studied here. Thus, to date, cross-border investors have faced not only a bewildering set of rules but also the problem of interpreting some of those complex rules through the often idiosyncratic legal jargon of a foreign language.
Our research team, being proficient in the major European languages of English, French, German, Italian, Swedish, and Norwegian, is providing translations of the core set of the various country rules. While an occasional language issue is inevitable, we believe our English translations accurately capture the original meaning and intent of the original legal terms. If in doubt, the country reports contain frequent references to the original-language sources.
The voting-project (1) studies the efficiency of existing voting systems, (2) provides data on market practices by large publicly traded companies within these systems, and (3) suggests possible areas for systemic improvements.
Any analysis of the efficiency of voting systems must contemplate the possibility of "straight-through processing"---the automatization of the entire proxy voting process from start to finish. A key element of straight-through processing systems is a centralized share registry (referred to below as the Central Security Depository or CSD). While virtually all modern capital markets operate through a CSD today, the role of the CSD in the voting-chain may sometimes be improved.
Another element involves separating the voting chain from the custody chain so as to simplify the distribution of general meeting-related information. Also, direct electronic voting platforms, offered by individual companies rather than by middlemen, may economize on voting costs. Based on the reports of the individual country voting systems, the project integrates its data on market practices with its analysis of the likely efficiency of straight-through voting systems and alternatives. This integration of data into our systemic analysis of cross-border rules and regulations makes the Tuck Share-Voting Project unique in the current literature.