Can US shareholders have too much democracy?

If the polls turn out to be a good indicator of the outcome of the UK general election this week, it will be a reminder that democracy can sometimes be a messy business.

There is a reason investors here in the US are debating the idea of "shareholder democracy" right now. Too little of it, and corporate boards can become as entrenched as any one-party government. Too much, and minority groups could end up holding boards to ransom, tying up directors in endless coalition-building exercises with shareholders when they ought to be carrying out their main role of overseeing the management of the company.

Shareholder democracy is top of mind for institutional investors and asset management companies because we are deep into annual meeting season. Many companies are again being asked to tweak their bylaws to give shareholders more sway in the boardroom.

This year's fight is over so-called proxy access. This would give long-term shareholders the right to nominate directors for election to the board, alongside the company's own choices. It is a right that exists in the UK and Australia, among other countries, but is it too much democracy for US shareholders?

US corporate governance has come a long way in a decade, but a lot of directors still hold to the opinion - now usually privately - that shareholders are too fractious and prone to short-termism to deserve much say in the boardroom. Directors are the best long-term stewards of companies, they say. This is not an illegitimate view, but too often it spills over into boardroom arrogance. One telling sign: of the directors forced to tender their resignation because their election tally fell below 50 per cent, most remain on the board because fellow directors refuse to accept their resignation.

Campaigners for proxy access say it is an important check on that arrogance. They cheered hard when BlackRock, the planet's largest fund manager and a significant shareholder in almost every listed company, declared it would generally be voting in favour of such a right.

<

The tabular content relating to this article is not available to view. Apologies in advance for the inconvenience caused.

The contradiction reflects how proxy access is still an evolving governance issue with unresolved technical questions over its implementation, not the least of which is that a stock can be moved around numerous portfolios even under one fund manager's umbrella.

There are wider concerns, too, about what "shareholder democracy" ought to look like. BlackRock, in fact, does not like the term at all. "We do not believe that the routine insertion of shareholders into the director nominations process would be appropriate and we are not advocating for a shareholder democracy," says Zach Oleksiuk, BlackRock's Americas head of corporate governance.

Others most certainly are advocating for it. Public pension plans, in particular, see shareholder activism as an important lever in a capitalist society. Proxy access would give them an opportunity to promote diversity and make boardrooms less "male, pale and stale".

Of more importance to value creation is the question of whether greater shareholder democracy encourages long-term thinking or in fact promotes short-termism. That will depend in large measure on the composition of a company's shareholder register. Many holders will be quarterly earnings-obsessed active managers; retail investors may take the long view; hedge funds could be betting on anything from a short-term financial restructuring to a long-term operational overhaul.

Happily, the rise of the giant index tracking funds has created a new class of permanent shareholder. Fund managers such as BlackRock, State Street and Vanguard are now almost guaranteed to be among the biggest holders of a US company, and because they track the market, they are going to be shareholders in perpetuity. They have a strong claim to be better long-term stewards than even boards themselves.

These are the shareholders most likely to meet the requirements to nominate directors under proxy access.

Other groups may be able to cobble together the shares to propose directors to push a narrow or short-term agenda, but companies will be able to push back, as they have done successfully against the most short-termist of the activist hedge funds who demand board seats under current rules.

The evidence from the UK and Australia is that contested elections are very rare. The likeliest outcome of proxy access is more dialogue between boards and shareholders who are their ultimate paymasters, which is why it is to be hoped it becomes best practice.

Matters may sometimes turn out messy, of course. But it seems apposite to adapt a phrase from one former UK election winner: Shareholder democracy is the worst form of corporate governance, except for all the others.

© The Financial Times Limited 2015. All rights reserved.
FT and Financial Times are trademarks of the Financial Times Ltd.
Not to be redistributed, copied or modified in any way.
Euro2day.gr is solely responsible for providing this translation and the Financial Times Limited does not accept any liability for the accuracy or quality of the translation