The Emergence of Universal Owners

Challenge, July, 2000 by James Hawley, Andrew Williams

In the health-care area, CalPERS, while not a contractor with Columbia/HCA on the service side of its operation, joined in a shareholder suit brought by the New York State Retirement Fund alleging, among other things, breaches of fiduciary duty by Columbia directors growing out of an extensive Medicare fraud investigation. They did this for the narrow reason of protecting their investment in the company, but also, in the words of William Crist, because "we have a responsibility for the credibility of the industry [as a whole]." [25] Considering the "credibility of the industry" is the type of analysis one would expect from a universal owner with stakes in most publicly traded companies in an industry. It is a small step to considering the broader impact of certain company-specific actions on the economy as a whole--and, through the economy, on the overall return on the universal owner's portfolio.

Another important area of concern to fiduciary investors is information transparency, in particular contingent liabilities. Examples include an environmental liability or action, a pending legal action, or anything else that might affect the economic performance of a company in the future. These liabilities are contingent because the magnitude of the liability depends on the outcome of some uncertain future event such as a lawsuit. Jon Lukomnik in New York noted that funds "are particularly interested in disclosure issues in these examples [environmental liabilities, discrimination, suits, etc.] and others on the assumption that if you can get management to focus on these issues it will have a long-term effect that is positive." [26] Universal owners have a general interest in receiving timely, complete, and relevant information from their portfolio companies because the outcome can have a marked impact on performance over the long run.

A Plan of Action for Universal Owners

Once universal owners recognize that they must consider both economywide issues and portfolio-wide issues in order to successfully maximize wealth in the long run, they will need to find ways in which to act on this realization. Constraining this action is the often-repeated refrain of institutional investors-- "We are small and we must carefully consider whether we can add value at a reasonable cost." But as Kim Johnson of Colorado PERA puts it, this calculation can be made more sophisticated.

That is, you do not look only at events in isolation, but look at them in the context of your portfolio as a whole. That's explicit fiduciary law. If you use that same philosophy in making decisions about governance, which is an economic activity, as far as I'm concerned then we are prepared to take individual actions that in the narrow sense may not be cost effective if we believe that our action coupled with other actions by other funds over a period of time will indeed lead to a long-term benefit. [27]

While Johnson's statement is specifically about traditional corporate governance issues, it can be generalized to other issues that have similar spillover effects. However, the problem of considering company-specific costs in light of portfolio-wide benefits is compounded by the well known collective action or free rider problem that arises because all owners of the equity of affected companies benefit while only those owners who take an action bear the cost. This problem is mitigated to some extent for large institutional owners because the absolute size of their holdings may be sufficient to justify action even if most of the benefit accrues to other institutions. [28]