1. Week 6 The Role of Institutional Investors in Corporate Governance Faisal AlSager MGT 427 - Corporate Governance

2. Objectives ✤ To understand the growing influence of institutional investors ✤ To realize the importance of institutional investors’ relationship with their investee companies

3. Categories of Share Ownership in the UK (1963 & 2004) 1963 (%) 2004 (%) Individuals 5414 Insurance Companies 1017 Pension Funds 616 Unit Trusts 12 Overseas 732

4. 2006: Holdings of Institutional Investors in the US $ billion Private Pension Funds 2,667.7 State/Local Pension Funds 1,958.4 Mutual Funds 5,018.4 Insurance Companies 1,637.7 Household Sector 5,482.8

5. Institutional Investors ✤ By 2002, institutions owned more than 60% of equity of most large multinational companies ✤ 58% of Microsoft ✤ 60% of GE ✤ 58% of Intel ✤ 68% of Cisco Systems ✤ More than 90% of some publicly traded companies

6. Some Institutional Investors ✤ Bank Trusts ✤ Mutual Funds ✤ Insurance Companies ✤ Universities and Foundations ✤ Pension Plans

7. Bank Trusts ✤ Trustees for everyone: from pension plans to private estates ✤ The security of the trust business may well be reason for the traditional poor investment performance by the banks

8. Mutual Funds ✤ They hold about 24% of all US companies ✤ It’s different from previously mentioned trusts because it’s designed for total liquidity ✤ Flexibility: They are designed for investors who come in and out on a daily basis ✤ Thus, concerned more with short-term

9. Insurance Companies ✤ They have symbiosis with companies they invest in; they are different from other institutional investors in the following: 1. Usually, they are holders of debt securities of any company in which they have an equity investment 2. They typically have - or would like to have - a commercial relationship with the company by providing insurance or a product to meet the company’s pension obligations

10. Insurance Companies ✤ The collective choice problem makes any form of activism uneconomic ✤ Thus, it’s not surprising that the insurance industry consistently votes with management, regardless of the impact on share value

11. Universities and Foundations ✤ They are institutional shareholders because they are funded through endowments ✤ This money is put into widely diversified investments, including common stock

12. Pension Plans ✤ The largest institutional investors are pension funds ✤ They are trustees ✤ Making economies socialist

13. Exit or Voice? ✤ ‘Exit and Voice’: “dissatisfaction [may be expressed] directly to management” (the voice option) or by selling the shareholding (the exit option) ✤ The exit option is not easy for institutional investors because of ✤ the size of the holdings, or ✤ the policy of holding a balanced portofolio

14. Influence of Institutional Investors ✤ The institutional investors’ potential to exert significant influence on companies has clear implications for corporate governance, especially in terms of the standards of corporate governance and issues concerned with enforcement

15. The Combined Code (2006) ✤ Dialogue with companies: Institutional shareholders should enter into a dialogue with companies based on the mutual understanding of objectives ✤ Evaluation of governance and disclosure: When evaluating companies’ governance arrangements, particularly those relating to board structure and composition, institutional shareholders should give due weight to all relevant factors drawn to their attention ✤ Shareholder voting: institutional shareholders have a responsibility to make considered use of their votes

16. References ✤ Corporate Governance: Mallin, Tina. Oxford. ✤ Corporate Governance (4th Edition): Monks, R. and Minow, N. 2004. (Publisher: Wiley-Blackwell)