The Mechanisms of Voting Efficiency

Abstract

In the wake of the financial crisis, shareholders are increasingly relied upon to monitor directors.  But while much has been written about directors’ flawed judgments, remarkably little is known about shareholders’ ability to make accurate judgments.  What determines whether shareholders make the right decision when asked to vote on, say, a merger?  The Article takes a novel approach to this question by drawing an analogy between corporate voting and another system for aggregating information on estimated values: stock trading.

Using insights on stock market efficiency, the Article makes three contributions to our understanding of voting efficiency.  First, the Article identifies and explores four key mechanisms of voting efficiency: (1) informed voting, which implies that shareholders have some information upon which to base their voting decisions; (2) rational voting, which implies that such information is processed in a rational, unbiased way; (3) independent voting, which implies that each shareholder arrives at a judgment by making use of his or her personal cognitive skills; and (4) sincere voting, which implies that shareholders vote with a view to furthering the common interest of maximizing shareholder value rather than their own private interests.

Second, the Article shows that share trading, proxy solicitation, and vote buying can usefully be viewed as arbitrage techniques that reallocate voting power in the hands of shareholders with superior information and processing skills, and with appropriate incentives.  By reducing information asymmetry, arbitrage techniques potentially play an important role in improving voting efficiency.  In practice, however, they are subject to cost constraints as well as legal constraints.  The limits of voting arbitrage are significant, and affect voting efficiency much in the same way as limits of securities arbitrage affect market efficiency.

Third and finally, the Article analyzes two issues that are currently being studied by the U.S. Securities and Exchange Commission and policymakers around the world: voting without corresponding financial interest (“empty voting”) and the major influence of proxy advisers.  By showing that these issues each involve a trade off between the various mechanisms of voting efficiency, their costs and benefits are brought into sharper focus.  Several policy options are then presented to mitigate the costs while fostering the benefits.