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

Abstract

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.CORPORATE GOVERNANCE PROVISIONS grant managers independence to manage the firm. However, they also insulate managers from the monitoring and control of shareholders.1 Establishing empirically how these provisions affect shareholder value and what type of shareholder rights have greater effects is essential for our understanding of the internal governance of firms. In practice, it is generally difficult to find a setting in which a firm's governance structure changes exogenously. As a result, the existing literature has generally not been able to provide causal estimates of the effect of these corporate governance provisions.2 Furthermore, the range of results in the * Vicente Cuñat, London School of Economics; Mireia Gine, WRDS University of Pennsylvania and Public-Private Sector Research Center, IESE Business School; Maria Guadalupe, INSEAD, NBER, CEPR, and IZA. We are grateful to Ashwini Agrawal; Ann Bartel; Ken Chay; Jeff Coles; Jan Eeckhout; Ray Fisman; Laurie Hodrick; Denis Gromb; Raymond Lim; Marco Manacorda; Zacharias Sautner; David Yermack; and seminar participants at Brown University, Columbia Business School, the University of Edinburgh, Goethe University, LeBow College of Business Conference on Corporate Governance, the London School of Economics, University of Michigan, the New York University Paduano Seminar, and the University of Oregon for their helpful comments and suggestions. The usual disclaimer applies.1 See, for example, Shleifer and Vishny (1997), Becht, Bolton, andRöell (2005), Comment and Schwert (1995), Gompers, Ishii, and Metrick (2003), Bebchuck, Cohen, and Ferrell (2004), and Core, Guay, and Rusticus (2006. 2 Prior research shows that legislative changes that affect external governance measures, such as state-level antitakeover legislation, increase managerial slack and reduce performance (Garvey and Hanka (1999), Bertrand and Mullainathan (2003), Giroud and Mueller (2010)). Internal governance arrangements, the ones developed by the firm itself, have been the subject of much research, but the evidence provided in these papers is mixed and, most importantly, based on correlations rather than on causal estimates. 1943

Antitakeover Provisions and Shareholder Wealth: A Survey of the Literature

“…One problem is the use of proxy mailing dates for the event dates. For this reason, the market reaction to the announcement may not fully reflect the value of the provisions being adopted (Bhagat and Jefferis (1991), Cunat et al (2012)). The other problem is a selection bias.…”

Institutional and Legal Context in Natural Experiments: The Case of State Antitakeover Laws

“…For example, Dittmar and Mahrt‐Smith () and John, Litov, and Yeung () find stronger results with the G‐index than the E‐index (indicating that provisions other than classified boards matter), and Hwang and Kim (), Harford, Humphery‐Jenner, and Powell (), and Johnson, Karpoff, and Yi () find stronger results using broad indices of takeover defenses compared to using only classified boards. Cremers, Litov, and Sepe () also find that the takeover defense‐related results in Cuñat, Gine, and Guadalupe () are driven by takeover defenses other than classified boards, also indicating that a variety of defenses offer incremental takeover protection.…”

The effects of takeover defenses: Evidence from closed-end funds

“…One strain of the literature argues that takeover defenses result in higher firm value due to bargaining effects (Comment and Schwert, 1995;Lipton, 2002;Kadyrzhanova and Rhodes-Kropf, 2011). Contrasting studies suggest that shareholder rights improve firm value, as seen in Scharfstein (1988), Ryngaert (1988), Gompers, Ishii, and Metrick (2003), Ferrell (2009), andCuñat, Gine, andGuadalupe (2012). Empirical work on the topic has primarily relied on either Q-ratios or event studies to examine the effect of defenses on shareholder value.…”

“…Q-ratios, used by Gompers, Ishii, and Metrick (2003) and Bebchuk, Cohen, and Ferrell (2009), only allow estimation annually and are inherently noisy due to inconsistent accounting, misstated liabilities, and varying opportunity sets. Event studies of the market returns following a change in a firm's defense structure, used in Ryngaert (1988), Comment and Schwert (1995), and Cuñat, Gine, and Guadalupe (2012), address some of these concerns but have produced inconsistent results and lack the scale of the q-ratio studies, generally focusing on a single defense, or in the case of Cuñat, Gine, and Guadalupe (2012), focusing only on narrowly passed shareholder-sponsored governance proposals. I employ both methodologies in this paper but instead of Q-ratios and market returns, I use the closedend fund discount.…”