This is hardly worth noting, but Professor Bebchuk then goes on to something infinitely more interesting from my perspective. He writes “In Wednesday‘s meeting, one of the SEC commissioners expressed the hope that improved disclosure would enable investors to cast votes in a more informed way. For this to make a difference, however, shareholders need more voting power.” He goes on to suggest a number of provision he believes are worthy of adoption by shareholders, few of which have managed to find their way into the corporate governance of many public companies. “For example, companies have largely continued to adopt arrangements providing soft landings for executives pushed out due to utter failure; to establish minimum levels for bonuses, however poor performance is; and to design option plans rewarding executives for gains from market-wide and industry-wide movements rather than managers’ own performance. Similarly, in spite of repeated calls for change, companies have largely failed to adopt claw-back provisions that enable the reversal of compensation based on accounting figures that have had to be restated as well as limits on executives’ broad freedom to exercise vested options.”
For him, then, disclosure is hardly enough. The market has proven inefficient in fixing these problems. The solution must be based on a governmental intervention producing a forced shift of power to shareholders. “To ensure that directors focus on shareholder interests, they must be made not only independent of insiders but dependent on shareholders.” The road to shareholder power lies in adoption of rules to make it easier for shareholders to propose slates of candidates for the board of directors, to require all directors to stand for election annually, to require the receipt of a majority of votes cast for election, to impose a secret balloting rule for voting, Moreover, Professor Bebchuk would import from the public sector the power of ballot initiative, and would require shareholder approval of compensation plans.
Professor Bebchuk has for many years advanced this position in favor of greater shareholder direct democracy in corporate governance (e.g., Lucian Bebchuk, The Case for Increasing Shareholder Power, 118 Harvard Law Review 833 (2005)). This, he posits, is the most efficient method for ameliorating the great abuses of corporate managers and the weakness of directors in the face of managerial excess. Shareholder direct democracy provides the great antidote to managerial tyranny and directorial weakness, especially in public companies.
I am a great fan of corporate democracy. Shareholders, like citizens of any other community, whether political, religious, economic, academic or the like, ought to have a great power to directly participate and affect the conditions under which he is forced to accept the conditions of member ship in that group. But I wonder, rhetoric aside, about the focus and value of direct shareholder democracy of the sort advocated. Or rather, if power is to shift from managers and directors, to shareholders, where exactly might it go? It certainly will not go to individual shareholders for the most part. Academics have long pointed to the collective action problems of the individual shareholder (e.g. Robert Charles Clark, Corporate Law” 1986, pp. 388-95). In the U.S., individuals tend to view their shares as property, and fairly liquid property at that. The most efficient way of dealing with this sort of property, is to dispose of it whenever it is possible to acquire something of greater value. Market liquidity privileges exit over loyalty and participation. That, as Justice Scalia once noted in dissent, “is the deal” reinforced by the securities laws (Austin v. Michigan Chamber of Commerce, 494 U.S. 652 (1990)).
But power taken from managers and directors must go somewhere. If not to the individual shareholder, then where might it go? A likely resting place is with institutional investors. We are told that by 1999 institutional investors held nearly half of the outstanding stock of American public corporation (The Conference Board, Institutional Investment Report, Financial Assets and Equity Holdings, Vol. 4(1), November 2000). Institutional investors are particularly active in holding shares of the largest 1,000 corporations (The Conference Board, Institutional Investment Report, Equity Ownership and Investment Strategies of U.S. and International Institutional Investors, Vol. 4(2 and 3)). But American institutional investors act for their own investors. And their primary obligation is to increase the value of the holdings they manage. That goal may require more attention to liquidity in the form of diversification rather than participation in the governance of a more limited group of corporations in which investment can be higher (John C. Coffee, Liquidity versus Control, The Institutional Investor as Corporate Monitor, 91 Columbia Law Review, 1277 (1991))). On the other hand, institutional investors might also serve whatever other articulated goals of their investors. In addition they may be created to further certain non directly monetary goals, for example good governance, avoidance of violation of international human rights norms and the like. And because investment managers may belong to the same social group as the managers of the corporations in which they invest, personal and other ties may act to limit the vigor of any inclination to become active in corporate management (Edward Rock, The Logic and Uncertain Significance) of Institutional Shareholder Activism, 79 Georgetown Law Journal 445, 468-70 (1991)).
But if institutional investors are more inclined to judge funds in terms of “investment objectives, long term preference and risk” (Edward D. Johnson, III and John J. Brennan, “No Disclosure, The Feeling is Mutual,” Wall Street Journal, January 14, 2003 at A14, describing investment manager opposition to SEC proposal requiring mutual funds to disclose their proxy voting policies and actual proxy votes cast), then to who would power likely trickle? One answer, of course, is to those individuals and entities who seek to participate in markets for corporate control. Direct shareholder democracy adds another and very interesting level of complexity to the gamesmanship possible in contests for corporate control. In one sense it might make effective control cheaper avoiding the need to actually buy shares. At a minimum, it adds layers of action possible in contest for control. Less likely, though it is fun to think about, is the incentives such shareholder democracy might create for the establishment of Japanese style cross holdings among a group of corporations, each thus watching each other’s back, at least to some extent (though clearly the sort of tight knot control of the Japanese model would not be possible in the more market oriented American context).
A potentially more interesting beneficiary of power devolution might be organized elements of civil society who seek to change corporate behavior on the basis of one or another cause. It would be those nonprofit and other social, political and religious organizations seeking to involvement themselves in corporate management who would profit mostly from this sort of proposed direct corporate democracy. They would perform the same function, in the context of corporate policies and governance that was once played by the individual shareholder with respect to compliance with shareholder disclosure obligations under the old derivative action regimes. Shareholder activism of this sort was substantially suppressed by federal legislation in the 1990s. And thus it would be ironic indeed if one sort of shareholder power, now focused on institutional shareholders and institutional elements of civil society, was created to replace the sort of individualized and small holder shareholder power recently reduced.
In this sense, Professor Bebchuk really furthers corporate governance institutionalism in fact in the name of the small shareholder, whose power remains marginal and whose interests are not addressed by a focus on direct shareholder participation in governance. On the bright side, the institutional side effects of this proposal also has the effect of destabilizing the privileged position of the shareholder supremacy principle on which so much corporate law has been based. Ironically (again) this will be done in the name of furthering shareholder primacy. In a world in which stakeholder groups, working within the intuitional framework of aggregated investment vehicles can further their own positions in the name of shareholders, it will be stakeholders rather than shareholder, for the benefit of which corporate governance will be focused. But that will be fine, as long as the formal requisites of share ownership are maintained.
But in any case, Professor Bebchuk raises one of the most interesting issues of corporate law in the early 21st century: why hold shares? The market in the U.S. has tended to answer that question in one way—that shares are held as property in which liquidity os privileged. But Professor Bebchuk reminds us that the market was able to develop that answer because the state permitted it. He reminds us that the market need not necessarily decide the answer to that question. Indeed, he suggests that the state ought to impose a different answer, that shares are bundles of citizenship rights in an economic community to which the shareholder has certain participatory obligations and in which participation rather than exit is privileged in the rules. This view has been, in other contexts, very popular over the last decade. Broadening the obligation of corporations to respond to one or another of its stakeholders has been the object of the international human rights community (see my article Multinational Corporations, Transnational Law: Corporate Social Responsibility as International Law, 37 Columbia Human Rights Law Review 287 (2006)), of local labor organizations, and other groups. As corporations have become more powerful, the tendancy has been to treat them more like states (see my article Ideologies of Globalization and Sovereign Debt: Cuba and the IMF, 24 Penn State International Law Review 497 (2006)). Professor Bebchuk reflects these trends in a narrow but important context—from within the most traditional parts of corporate law and regulation. It seems that corporate institutionalism is coming, the focus on the corporate entity must reduce the centrality of the individual shareholder. The aggregate or institutional shareholder as the conception of shares will replace the solitary shareholder, as the foundational ideal of shares as property becomes encrusted with the institutional overlay of rights and duties. In lieu of discipline by exit, shareholding will give rise to greater obligations to manage. Neither conception is wrong. Both serve economic development well enough. Each reflects cultural and social sensitivities in the conceptualization of economic entities. These conceptions shift over time and over cultures. But that this is done in the name of the individual shareholder, who ultimately loses power relative to an increasingly autonomous entity to and from which obligations flow, adds irony to the mix.