Do Long-Term Investors Improve Corporate Decision Making?
Institutional investors are well known to influence the behaviour of their portfolio firms. However, since at least the corporate raids of the 1980s, the general public and business community have been concerned about the potentially deleterious effect of short-term activist investors, such as hedge funds, compared to investors, such as pension funds, that take a long-term approach to corporate governance. Our research examines the impact of a broad range of corporate behaviours. Our objectives are to identify the specific corporate policies that are affected by long-term investors, and to evaluate whether such investors indeed improve corporate governance and create shareholder value.
Our study looks at a wide range of corporate outcomes, but in summary terms, firms in which long-term investors own a greater stake improve along various dimensions of managerial behavior (e.g., less financial misconduct) and corporate governance generally (e.g., better boards). Additionally, these long-term investors, which include pension funds and insurance companies among others, restrain the well documented tendency of corporate managers to invest too much when they are not adequately monitored. Rather than raise unnecessary financing and stockpiling cash that managers might be tempted to waste, firms with more long-term investors pay greater dividends and repurchase shares more often. At the same time, long-term investors encourage firms to become more innovative, even while they they restrain R&D spending. Overall, pension funds and other long-term investors increase shareholder value by both increasing profitability and decreasing risk.
Our findings have powerful implications for both corporate managers and money managers. First, pension funds and insurance companies, as long-term investors, can be powerful allies to corporate managers willing to make investment and payout decisions for the next decade, not the next quarter. Second, policymakers and regulators should facilitate corporate governance by pension funds and other long-term investors. A small number of activism campaigns by hedge funds monopolizes the headlines, but most governance occurs through private engagements with corporate managers. Public policy should increase the flow of information (e.g., promote corporate disclosure) and reduce barriers to engagement (e.g., encourage access to management) in order to facilitate governance by long-term investors for the benefit of all shareholders of the firm.