Do Voting Rights Affect Institutional Investment Decisions? Evidence from Dual‐Class Firms

We examine whether, and to what extent, shareholder voting rights affect institutional investment decisions. We find that institutional ownership in dual‐class firms is significantly lower than it is in single‐class firms after controlling for other determinants of institutional investment. Although institutions of all types hold fewer shares of dual‐class firms, this avoidance is more pronounced for long‐term investors with strong fiduciary responsibilities than for short‐term investors with weak fiduciary duties. Following the unification of dual‐class shares into a single class, institutional investors increase their shareholdings in the unifying firm. Overall, our results suggest that voting rights are an important determinant of institutional investment decisions.     

Do long‐term institutional investors foster corporate innovation?

This article examines the effect of institutional investors’ investment horizons on firms’ innovation activities. We conjecture that the presence of long‐term institutional investors mitigates managerial myopia, prompting firms to generate greater corporate innovation outputs. Using data on patents and patent citations for US firms, we find that institutions’ investment horizons are positively related to the number of patents and patent citations. We also document that long‐term (short‐term) institutional ownership is positively (negatively) related to the innovation outputs. This article makes an additional contribution to the corporate innovation literature by addressing the positive role of long‐term institutional investors.     

Domestic and Foreign Earnings, Stock Return Variability, and the Impact of Investor Sophistication

We examine the importance of foreign earnings relative to domestic earnings for a sample of U.S. multinationals using variance decomposition. Our methodology represents an alternative and complementary approach over the prior literature, which is based on traditional regressions and earnings response coefficients. We document that domestic earnings are more important in explaining the variance of unexpected returns than are foreign earnings and that the relative importance of domestic earnings is a decreasing function of investor sophistication. Last, we classify institutional investors as either short‐ or long‐term oriented following Bushee [1998]. We find that the variance contribution of foreign earnings increases with the level of investment by long‐term investors. In contrast, there is no significant relation between the degree of ownership by short‐term (or transient) investors and the variance contribution of domestic and foreign earnings. Overall, our results are consistent with Thomas's [1999] finding that investors on average underestimate the persistence of foreign earnings.     

Short‐Term Debt as Bridge Financing: Evidence from the Commercial Paper Market

We analyze why firms use nonintermediated short‐term debt by studying the commercial paper (CP) market. Using a comprehensive database of CP issuers and issuance activity, we show that firms use CP to provide start‐up financing for capital investment. Firms’ CP issuance is driven by a desire to minimize transaction costs associated with raising capital for new investment. We show that firms with high rollover risk are less likely to enter the CP market, borrow less CP, and borrow more from bank credit lines. Further, CP is often refinanced with long‐term bond issuance to reduce rollover risk.     

Shareholders' control rights,family ownership and the firm's leverage decisions

We investigate the association between controlling shareholders' ownership (CS_Own) and firms' leverage decisions in the Singaporean context. We examine whether the impact of ownership concentration on leverage differs across excess and lower control. We report that shareholders with excess control prefer leverage financing for an optimal capital structure and focus on value maximisation rather using leverage as a tool of minority shareholders' expropriation. Our analysis shows that firms capital structure significantly influences by the coalition of shareholders particularly decisions about leverage financing in addition to the firms' specific characteristics and institutional arrangements. Our empirical evidence shows that controlling shareholders with a lower fraction of equity are more concerned about limited holding thus prefer leverage over equity financing to inflate their equity stake to protect them from the potential takeovers and mergers. We report that capital structure decisions in Singapore are linked with the trade-off between the controlling shareholders' target of mitigating firm risk and their non-dilution entrenchment needs. Further, we found an inverted U-shaped association between control ownership and leverage financing. In terms of moderating effect of family-controlled ownership, our findings exhibit that leverage financing is less pronounced for family firms in Singapore due to the under-diversified investment portfolio.     

The Vote Is Cast: The Effect of Corporate Governance on Shareholder Value

This paper investigates whether improvements in the firm's internal corporate governance create value for shareholders. We analyze the market reaction to governance proposals that pass or fail by a small margin of votes in annual meetings. This provides a clean causal estimate that deals with the endogeneity of internal governance rules. We find that passing a proposal leads to significant positive abnormal returns. Adopting one governance proposal increases shareholder value by 2.8%. The market reaction is larger in firms with more antitakeover provisions, higher institutional ownership, and stronger investor activism for proposals sponsored by institutions. In addition, we find that acquisitions and capital expenditures decline and long‐term performance improves.     

Institutional Shareholder Investment Horizons and Seasoned Equity Offerings

Firms with more short‐term institutional shareholders experience significantly more negative abnormal returns at the announcement of seasoned equity offerings. This effect is strong for primary offerings (only firms receive proceeds), but is not present for secondary offerings (firms do not receive any proceeds). Furthermore, a shorter institutional shareholder investment horizon predicts poorer postissue abnormal operating performance and the negative effect of a shorter shareholder horizon is mitigated by higher managerial ownership. My results are consistent with the argument that long‐term shareholders more carefully monitor managerial activities and prevent misuse of the cash flow provided by equity issues.     

Institutional Monitoring: Evidence from the F‐Score

The extant literature shows that institutional investors engage in corporate governance to enhance a firm's long‐term value. Measuring firm performance using the F‐Score, we examine the persistent monitoring role of institutional investors and identify the financial aspects of a firm that institutional monitoring improves. We find strong evidence that long‐term institutions with large shareholdings consistently improve a firm's F‐Score and that such activity occurs primarily through the enhancement of the firm's operating efficiency. Other institutions reduce a firm's F‐Score. Moreover, we find evidence that, while monitoring institutions improve a firm's financial health, transient (followed by non‐transient) institutions trade on this information.     

Institutional Investment Horizons and the Cost of Equity Capital

We examine the influence of institutional investors’ investment horizons on a firm's cost of equity. We argue that the cost of equity will decrease in the presence of institutional investors with longer‐term investment horizons due to improved monitoring and information quality. Our empirical results demonstrate that the cost of equity declines in the presence of institutional investors with long‐term investment horizons, all else remaining equal. Our results indicate also that the monitoring role of long‐term institutional investors is more pronounced for firms with higher agency problems (poorly governed firms). Overall, our evidence suggests that when considering the influence of institutional investors, it is critical to account for institutional heterogeneity, which leads to new directions for future research.     

Institutional Ownership and the Dynamics of Trading Volume around FFO Announcements

We examine the effect of institutional ownership on abnormal trading volume around the announcement of funds from operations (FFO) by real estate investment trusts (REITs). Our central thesis is that abnormal trading volume is lower for the more informed institutions vis a vis non-sophisticated retail investors/institutions. We find a negative relationship between ownership by pension funds and abnormal trading volume around quarterly FFO announcements. However, ownership by the other types of institutions is unrelated to abnormal trading volume. Consistent with the view that some institutional investors are more informed than individual investors and therefore respond less to end of year announcements, we find that higher ownership by investment advisors is associated with lower levels of trading volume around end of year FFO announcements. Lastly, we find no evidence of institutional sell-offs associated with announcements of less than expected FFO.     

Does Investment Horizon Matter? Disentangling the Effect of Institutional Herding on Stock Prices

This study finds that, over short horizons, herding by short‐term institutions promotes price discovery. In contrast, herding by long‐term institutions drives stock prices away from fundamentals over the same periods. Furthermore, while the positive predictability of short‐term institutional herding for stock prices is more pronounced for small stocks and stocks with high growth opportunities, the negative association between long‐term institutional herding and stock prices is stronger for stocks whose valuations are highly uncertain and subjective. Finally, we show that the destabilizing effect of institutional herding persistence documented in the recent literature is entirely driven by persistent herding by long‐term institutions.     

Corporate Control and the Choice of Investment Financing: The Case of Corporate Acquisitions

We test the proposition that corporate control considerations motivate the means of investment financing—cash (and debt) or stock. Corporate insiders who value control will prefer financing investments by cash or debt rather than by issuing new stock which dilutes their holdings and increases the risk of losing control. Our empirical results support this hypothesis: in corporate acquisitions, the larger the managerial ownership fraction of the acquiring firm the more likely the use of cash financing. Also, the previously observed negative bidders' abnormal returns associated with stock financing are mainly in acquisitions made by firms with low managerial ownership.     

An Empirical Analysis of the Effect of Financial Distress on Trade Credit

This paper studies the use of supplier's trade credit by firms in financial distress. Trade credit represents a large portion of firms’ short‐term financing and plays an important role in financial distress. We find that firms in financial distress use a significantly larger amount of trade credit to substitute for alternative sources of financing. Firms that are smaller, with less market power, and with more unique products tend to use more trade credit financing when in distress. We also find that firms that significantly increase their trade payables when in financial distress, experience an additional drop of at least 11% in sales and profitability growth over the previously documented 21% average drop for financially troubled firms.     

Institutional monitoring and litigation risk: Evidence from employee disputes

In this article, we investigate how institutional investors help mitigate business‐related risks in a corporate environment. Using a large sample of employment disputes, litigations, and court cases, we find that institutional investors play a significant role in reducing employment litigation. We observe that firms with larger shares of institutional ownership have a lower incidence of employment lawsuits and that long‐term institutional investors are more effective at decreasing employee mistreatment. Our results suggest that institutional investors can improve the employee work environment and help mitigate future employee litigation. The improvement in employee work conditions has been shown to increase a firm's value through increased employee output, reduced litigation, and direct and indirect costs. Our results shed light on the effectiveness of institutional monitoring on a firm's litigation risk.     

Identifying and Attracting the "right" Investors: Evidence on the Behavior of Institutional Investors

This article summarizes the findings of research the author has conducted over the past seven years that aims to answer a number of questions about institutional investors: Are there significant differences among institutional investors in time horizon and other trading practices that would enable such investors to be classified into types on the basis of their observable behavior? Assuming the answer to the first is yes, do corporate managers respond differently to the pressures created by different types of investors– and, by implication, are certain kinds of investors more desirable from corporate management's point of view? What kinds of companies tend to attract each type of investor, and how does a company's disclosure policy affect that process? The author's approach identifies three categories of institutional investors: (1) “transient” institutions, which exhibit high portfolio turnover and own small stakes in portfolio companies; (2) “dedicated” holders, which provide stable ownership and take large positions in individual firms; and (3) “quasi‐indexers,” which also trade infrequently but own small stakes (similar to an index strategy). As might be expected, the disproportionate presence of transient institutions in a company's investor base appears to intensify pressure for short‐term performance while also resulting in excess volatility in the stock price. Also not surprising, transient investors are attracted to companies with investor relations activities geared toward forward‐looking information and “news events,” like management earnings forecasts, that constitute trading opportunities for such investors. By contrast, quasi‐indexers and dedicated institutions are largely insensitive to shortterm performance and their presence is associated with lower stock price volatility. The research also suggests that companies that focus their disclosure activities on historical information as opposed to earnings forecasts tend to attract quasi‐indexers instead of transient investors. In sum, the author's research suggests that changes in disclosure practices have the potential to shift the composition of a firm's investor base away from transient investors and toward more patient capital. By removing some of the external pressures for short‐term performance, such a shift could encourage managers to establish a culture based on long‐run value maximization.     

Leading Indicator Variables, Performance Measurement, and Long-Term Versus Short-Term Contracts

In this article we develop a multiperiod agency model to study the role of leading indicator variables in managerial performance measures. In addition to the familiar moral hazard problem, the principal faces the task of motivating a manager to undertake “soft” investments. These investments are not directly contractible, but the principal can instead rely on leading indicator variables that provide a noisy forecast of the investment returns to be received in future periods. Our analysis relates the role of leading indicator variables to the duration of the manager's incentive contract. With short‐term contracts, leading indicator variables are essential in mitigating a holdup problem resulting from the fact that investments are sunk at the end of the first period. With long‐term contracts, leading indicator variables will be valuable if the manager's compensation schemes are not stationary over time. The leading indicator variables then become an instrument for matching the future investment return with the current investment expenditure. We identify conditions under which the optimal long‐term contract induces larger investments and less reliance on the leading indicator variables as compared with short‐term contracts. Under certain conditions, though, the principal does better with a sequence of one‐period contracts than with a long‐term contract.     

Corporate bond pricing and ownership heterogeneity

We examine how heterogeneity in institutional equity ownership affects bondholders. Firms with larger short-term (long-term) institutional ownership are associated with higher (lower) future bond yield spreads. The adverse effect of short-term ownership on bond pricing is driven by issuing firms that have larger financial distress risk and larger equity volatility. The favorable effect of long-term ownership appears to be more systematic. Further, this bond pricing effect is stronger in cases where shareholder rights are relatively weak. Finally, the effect of short (long) horizons is driven by concentrated (diffused) institutional holdings.     

Do company visits by institutional investors mitigate managerial myopia in R&D investment? Evidence from China

This study investigates the effects of company visits by institutional investors on managerial myopia about investment in research and development (R&D) in China. We find that company visits increase R&D spending. We also find that this increase is more pronounced for companies that have an entrenched chief executive officer (CEO), as indicated by longer CEO tenure and CEO duality, and for companies that face less intense market competition. The results further show that the increase in R&D spending is more pronounced for companies that have larger institutional ownership, are invested by long-term oriented institutions, are in the high-tech industry, and are state owned. These findings attest to the governance role of institutional investors.     

Motivated monitoring by institutional investors and firm investment efficiency

We find that motivated monitoring by institutional investors mitigates firm investment inefficiency, estimated by Richardson's (2006) approach. This relation is robust when using the annual reconstitution of the Russell indexes as exogenous shocks to institutional ownership during the period 1995–2015 and after classifying institutional ownership by institution type. We also show that closer monitoring mitigates the problem of both over‐investing free cash flows and under‐investment due to managers’ career concerns. Finally, we document that the effectiveness of the monitoring by institutional investors appears to increase monotonically with respect to the firm's relative importance in their portfolios.     

Family Control and Financing Decisions

This study uses a comprehensive European dataset to investigate the role of family control in corporate financing decisions during the period 1998–2008. We find that family firms have a preference for debt financing, a non‐control‐diluting security, and are more reluctant than non‐family firms to raise capital through equity offerings. We also find that credit markets are prone to provide long‐term debt to family firms, indicating that they view their investment decisions as less risky. In fact, our empirical results demonstrate that family firms invest less than non‐family firms in high‐risk, research and development (R&D) projects, but not in low‐risk, fixed‐asset capital expenditure (CAPEX) projects, suggesting that fear of control loss in family firms deters risk‐taking. Overall, our findings reveal that the external financing (and investment) decisions of family firms are in greater (lesser) conflict with the interests of minority shareholders (bondholders).