Forget Garth Brooks and his friends in low places. At AGM time, you need powerful friends like big institutional investors who demand more of corporate management.
Each year, the companies that you own inundate you with information about how to vote on the issues at the annual general meeting. But why bother? Let the big institutional investors figure it out. By pursuing their own interests, they end up helping your interests as well.
In theory, shareholders like you own a company. In theory, the presidents, chief executive officers, chief financial officers and other top managers are your employees. But the reality, of course, is quite different.
Over the years, large corporations became owned by thousands of shareholders. The majority of the individual shareholders owned a few hundred or a few thousand shares. This dispersed the shareholders’ power. That, in turn, effectively increased management’s power.
Some managements began to treat shareholders like you shabbily. They often entrenched and richly rewarded themselves—at your expense. And some managers took a cavalier attitude towards your money. They would spend it on company jets, costly Class A offices adorned with pricey paintings and furniture, gourmet meals and priceless wine at high-end restaurants, their favourite charities and other such extravagances.
Individual investors have little power
Schemes to align management’s interests with yours sometimes failed. Often they gave management a short-term focus while losing sight of what would ensure your company’s long-term prosperity. Cutting research and development, for instance, can temporarily boost a high-technology stock’s profit. But it jeopardizes the firm’s future. Such short-term jumps in profits and share prices sometimes coincided with the exercising of management’s stock options.
Managements often favour share buyback plans over raising the dividend. Share buybacks are good for individual investors too. But dividends are better. Dividends do little for executives with stock option plans or the right to buy shares at a later date.
Also share buybacks can prove detrimental if a company borrows too much money to finance them.
If you didn’t like the arrangement, you could only ‘vote with your feet’ and sell.
Since the 1990s, however, big institutional investors such as mutual funds and pension funds have invested hundreds of billions of dollars in stocks. As a result, they’ve gained a lot of power at many companies. This is good for you since in pursuing their own interests, they also help yours.
When management’s mistakes damage a company’s share price, it hurts the returns of the institutions. This could lead to the firing of an institutional manager if the plunging company drags down his or her returns too far. So institutions take a company’s mistakes very seriously. In some cases, they have managed to replace inept or corrupt managers.
Institutional investors hire experts
Investors may find it hard to decide how to vote their shares when they own so many companies. In these cases, the institutions often rely on the advice of Institutional Shareholder Services or Glass Lewis. They’re independent providers of governance services. They help institutional investors to know what’s going on and how to vote their shares.
For many of these institutions, selling is difficult. After all, disposing of their large holdings can cause the shares to plunge. Besides, where are they going to reinvest the diminished proceeds?
To the extent that big institutions demand more of corporate Canada, you’ll profit. The big institutional investors are in effect your powerful friends.
This is an edited version of an article that was originally published for subscribers in the October 9, 2020, issue of The Investment Reporter. You can profit from the award-winning advice subscribers receive regularly in The Investment Reporter.
The Investment Reporter, MPL Communications Inc.
133 Richmond St. W., Toronto, On, M5H 3M8, 1-800-804-8846