STANFORD, Calif. — May 09, 2011
Many institutional investors rely on a proxy advisory firm to assist them in voting company proxies and fulfilling the fiduciary responsibility they have to vote in the interest of beneficial shareholders. But according to a new study at the Stanford Graduate School of Business, proxy advisory firm recommendations may actually decrease shareholder value.
The recommendation of proxy advisory firms is not inconsequential. Studies conducted by Stanford GSB faculty member David F. Larcker, who is Director of the Corporate Governance Research Program, and doctoral students Allan L. McCall and Gaizka Ormazabal, show that an unfavorable recommendation from the largest proxy advisory firm (Institutional Shareholder Services, ISS) can reduce shareholder support significantly, depending on the matter of the proposal.
While there are potential benefits and drawbacks to relying on the voting recommendations of proxy advisory firms, little empirical research to date has been performed on whether the voting recommendations of these firms are “correct.” That is, are shareholders really better off if they follow their recommendations?
To answer this question the researchers examined the impact of ISS voting policies on 264 exchange offers during 2004 to 2009. They find that companies that design their exchange offer so that it receives a positive recommendation from proxy advisory firms exhibit a statistically lower market reaction, lower operating performance, and higher executive turnover than those firms that do not design their plans in accordance with the proxy advisory firm guidelines. These results indicate that proxy advisory firm recommendations on stock option exchanges do not increase, and in fact actually decrease, shareholder value.
The research paper, “Proxy Advisory Firms and Stock Option Exchanges: The Case of Institutional Shareholder Services,” and companion case study, “Do ISS Voting Recommendations Create Shareholder Value?” are available online from the Stanford Corporate Governance Research Program: http://www.gsb.stanford.edu/cgrp/topics/shareholder/closer_look.html.
Larcker is coauthor, with Brian Tayan, of the book, “Corporate Governance Matters: A Closer Look at Organizational Choices and their Consequences” (FT Press-Pearson Prentice Hall, 2011).
Stanford Graduate School of Business
Helen Chang, 650-723-3358