Henry Manne and Corporate Democracy

Elizabeth Nowicki —  30 January 2007

On January 2, 2007, Dean Henry Manne published a column in the WSJ regarding corporate democracy.  In this column, Manne takes a stab at shareholder voting and corporate democracy.  Manne maintains that shareholder activists are deluding themselves with the phrase “corporate democracy” in that only the controlling s/h have and will ever have a true voice in corporate matters (such that there never will be any “corporate democracy” as a practical matter).  It appears that Manne takes the position that corporate “democracy” does not and should not exist; shareholder activists misunderstand the shareholder vote from a “big picture perspective;” and there are other alternatives to a full shareholder vote.Â

Professor Steve Bainbridge’s commented on Manne’s column, noting that “[a]ll in all, it’s a brilliant spanking of the shareholder activists, which I highly commend to your attention.”  As a token radical shareholder primacist, I have to say that I felt more befuddled after reading Manne’s comments than “spanked.”Â

Setting aside any discussion of cumulative voting, Manne’s column left me wondering how he accounted for investor confidence.  Manne notes that, instead of holding meetings at which shareholders exercise their vote, one could (in theory) appoint a trustee to survey the controlling block to see who they want in leadership.  Yet it is unclear to me how Manne accounts for investors who pack up their money and walk away when denied a vote.  Adam Smith and the OPM concern:  it seems to me that voting is at least a small indication to shareholders that those managing their money are recognizing an accountability to the investors.  I have to believe that that impacts investor confidence, so how does Manne account for the longer term loss of investor confidence?Â

Additionally, “shareholder democracy” serves the purpose of signaling to directors whether shareholders are displeased.  For example, assume at a 1995 annual meeting that 19% of the Disney shareholders withheld their vote for Eisner as director.  Obviously Eisner would still be elected by a 81% vote, but my position would be that the 19% vote was useful because it conveyed to Disney management that investors had perhaps lost their confidence in Eisner’s ability to serve as a director.  This would mean that Disney management would have time (hopefully) to change things to avoid the 19% of displeased shareholders pulling their money out of Disney.  If investors have no voice and no sense that management takes note of their views, will there not be some sort of loss of confidence, reluctance to invest, and related market adjustments?Â

Manne might say “calling for a full vote was a big waste of time – the 19% block was always going to be stuck with the course charted by the 81%.  And if the complaining 19% pulled their money out of Disney stock such that the stock price slips, professional investors would snap up the Disney stock on the fall such that it would rebound.” Â

But does that reply – the market will right itself – fully account for the costs of the market righting itself?  How do L&E wonks like Manne completely account for the true, long-term cost of noisy trading when it is hard to identify what the market would have done in the absence of such?  Assume that noisy trading weeds out certain investors with a weak stomach, how much is the market losing in transactional costs or capital market strength (long term) with a volatile market?  Even if Manne assumes that the market will right itself, what are both the direct and the indirect costs of the market righting itself via a relatively large Disney minority shareholder exodus and extra market noise?  It is unclear to me how Manne accounts for those things.

4 responses to Henry Manne and Corporate Democracy

  1. 

    “It is unclear to me how Manne accounts for…long-term cost of noisy trading”

    It’s not clear to me that he needs to.

    I don’t know of any evidence that the corporate drama surrounding proxy contests actually increases volatility. Please let me know of any study that says otherwise.

    Furthermore, in my experience with investors and managers, the mob is wrong at least as often as they are right. Among the relatively few shareholders that do pay enough attention to even have an opinion of menagement, I find that they often don’t know what they’re talking about. Their difference of opinion is just that, and does not create a presumption that their judgment should substitute for that of the board, no matter how loudly they protest. Of course, the mob is not always wrong, but that should not be the standard against which corporate governance should be radically altered.

    And even when the mob is right, they may be right by accident. The most difficult job for even the most conscientious director is distinguishing bad results from bad bets. Seasoned executives with first-hand familiarity of the company and people involved have trouble with this. Given the relative gap, Grand Canyon-wise, in the specific knowledge of directors vs. outside shareholders, why would we suppose that the mob would, on average, even in situations that the press tells us is in obvious need of repair, outperform even mediocre directors “on the ground?”

    “Disney” is not the best answer to these questions, especially the last, because there were directors there leading the fight for change. In the estimation of shareholders, they were effective, after a fashion, in a way that shareholder democracy might not have been able to match, and may have hopelessly gummed up in long-term, factional infighting.

    I don’t think Henry has the burden of proof on this particular objection.

  2. 

    Elizabeth~

    It seems that the underlying assumption of your argument is that there are only two ways of shareholders communicating displeasure with management–voting and selling. In fact, there are many other inputs on investors’ views of management. Investors can communicate directly with the company, analysts can put forward their views, i-banks can make recommendations to their clients. It would seem to me that voting at an annual meeting is perhaps the least effective way to communicate unhappiness with directors or management. It is a very blunt instrument and in my experience with boards, doesn’t communicate much information at all. Actions that affect stock price, which include more than merely selling, are much more effective at effecting change.

  3. 
    Elizabeth Nowicki 30 January 2007 at 3:05 pm

    I think the position with the withholding situation (Disney in 2004 – 43% withheld) implies that, of the proxies actually cast, X% of the people who voted actually affirmatively refused to vote for Eisner.

  4. 

    Elizabeth,

    How do we know that at least SOME of that 19% are not voting for Eisner out of a lack of support, rather than pure apathy? I own a few stocks, and I know that I rarely, if ever, vote in corporate elections. I like to think that it’s rational ignorance, but I think that at least for small-scale shareholders, the answer is apathy and ignorance.

    Just like in Florida in 2000, how do you (or how does anybody else?) determine intent from apathy or lack of support for a candidate?