UC Berkeley

Abstract

Law, Politics and Markets of Corporate Governance:

Institutional Investors' Influence

by

Stephen Davis Carniglia

Doctor of Philosophy in Jurisprudence and Social Policy

University of California, Berkeley

Professor Robert A. Kagan, Chair

This dissertation research project examines the role of institutional investors in influencing the corporate governance rules applicable to U.S. public companies, through an interview study of institutional investors and their expert corporate governance advisers, as well as a detailed review of the comments submitted to the SEC in connection with a proposal to regulate the proxy advisory firms which advise institutional investors. The key issue continues to be the "agency problem" identified by Berle and Means in the 1930's: the tendency of management to serve their own interests rather than investors' interests.

Despite a long-standing debate over whether corporate law evolves to serve managers or investors, there is substantial evidence that the resulting legal environment has permitted corporate governance rules which tend to entrench management and increase its discretionary powers. This has led to significant increases in management compensation, which has led to behavior intended to protect management and enhance compensation. A long history of political and legal involvement by business and management interests has served to protect the status quo in most cases. Dispersed shareholders have been at a disadvantage in corporate governance because of the collective action problem; their individual interests are small compared to those of corporate managers.

The growth of institutional ownership of U.S. corporate shares led many commentators to predict that these new shareholders would have the resources and interests to counter management interests, curb excesses, and reform corporate governance. While they have had some success, institutional investors have not been as influential as expected and executive compensation has grown substantially at the same time as institutional ownership increased.

This research shows that institutional investors want important changes in corporate governance, especially in aligning management's interests with shareholders', but they have failed to match management's actions in coordination, lobbying, political contributions, litigation, and public relations. It found evidence that institutional investors barely use their vast economic power to influence corporate governance. It found that a significant impediment is a striking mismatch in personality traits and motivation of corporate governance professionals compared to corporate managers, although proxy advisory firms provide an unheralded role in coordinating institutional corporate governance efforts and positions. It concludes that the agency problem is unlikely to be solved without significant increases in institutional investors' political resources and coordination, and without a new mobilizing force.