Governance through relative ownership: Enabling better decisions through engagement

Abstract

The current paper examines how ownership structure can enable corporate insiders’ engagement with alternative perspectives and improve the quality of strategic decisions. We focus on the interplay between corporate insiders and institutional investors, and examine how their relative ownership vis-à-vis each other could enable the organization to take advantage of unexpected vantage points on key strategic issues. We argue that a formidable but not so disproportionately high relative ownership of institutional investors will goad corporate insiders to pay heed to the alternative perspectives of institutional investors even as it gives them room to reject these perspectives if they deem right. We extend the theory to explore the boundary conditions that impact the extent to which corporate insiders heed institutional investors’ alternative views. We also explore the import of paying heed in dynamic environments. We test our insights in the context of corporate capital allocation decisions as allocation of capital across various competing investment opportunities is a crucial mechanism through which good governance adds value. Using a panel of listed Indian firms, we find that institutional investors’ relative ownership has an inverted-U relationship with value added by allocation. By focusing on how ownership structure enables engagement, as opposed to alignment, we complement and subtly redirect research on ownership structure to embrace the inherently complex nature of strategic decisions.