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Shareholder Democracy
Juan Diaz-Granados
University of Canberra, Canberra, ACT, Australia
Synonyms
Corporate democracy;Shareholder franchise;
Stakeholder democracy
Definition/Description
Shareholder democracy, an off-shoot of the
“shareholder primacy”approach to corporate gov-
ernance, seeks to increase the role of shareholders
in management and decision-making in the cor-
poration. The core idea is that shareholders should
regain some of the power that was lost to directors
as a result of the rise of management and the board
of directors in corporate decision-making. Share-
holder democracy sees a parallel between the
positions of management of the corporation and
the management of democratic societies and sug-
gests that shareholders should have more control
and a more active role in the affairs of the
corporation.
Shareholder democracy, its advocates argue, is
necessary for several reasons, including increased
accountability of corporate managers, avoidance
or reduction of agency problems and conflict of
interests between shareholders and managers, and
the role of shareholders as the residual claimants
of the corporation.
The broader agenda of shareholder democracy
includes enhancing shareholders’voting power,
strengthening shareholder advisory resolutions,
allowing derivative suits and stock ownership
consolidation in institutional investors, and creat-
ing say-on-pay rules, shareholder advisory com-
mittees, and proxy advisory firms.
Introduction
Corporations are among the most efficient vehi-
cles for conducting business. Through the incor-
poration process, an incorporator creates a
juridical person that the legal system recognizes
as an independent person with different rights and
duties. This juridical person is styled “the corpo-
ration,”a critical actor of contemporary
capitalism.
Corporate persons, however, do not act inde-
pendently of the human persons who incorporate,
operate, and make strategic decisions for them.
They are fictional entities and, as such, require
human persons to make decisions about acquiring
rights and duties. A corporation is a legal vehicle
steered by someone. Whether shareholders or
directors, one or more human persons is always
behind the decisions of the corporation.
Two bodies of the corporation have been tradi-
tionally entitled to make corporate decisions: the
board of directors and the general meeting of
© Springer Nature Switzerland AG 2022
S. O. Idowu et al. (eds.), Encyclopedia of Sustainable Management,
https://doi.org/10.1007/978-3-030-02006-4_104-1
shareholders. What decisions belong to each of
these bodies, and therefore what decision power is
allocated to each, is a contested matter. Some
contend that the corporation’s decision process
must prioritize shareholders because the corpora-
tion must serve the interests of this group (“share-
holder primacy”) (Hayden and Bodie 2010).
Conversely, others believe that the board of direc-
tors should be the locus of corporate decision-
making as it is best positioned to steer the course
of the company (“board primacy”) (Hayden and
Bodie 2010).
The concept of “shareholder democracy,”
while acknowledging that boards of directors
play an active role in the corporation’s decision-
making process, holds that shareholders should
retain some power over corporations including
increased decision-making.
Shareholders and Democracy
The concept of “shareholder democracy”suggests
a political parallel between the state and the cor-
poration. This parallel refers to the idea that in the
same way that people entitled to a vote in a dem-
ocratic society define the direction of the country,
people entitled to a vote in a corporation should
determine the course of the company (Duffy
2002; Latcham and Emerson 1952). Although
the concept of “democracy”may seem strange in
the realm of private corporations, it is a concept
that evokes the idea that directors, just as elected
politicians, ought to be constrained by the will of
the voters, in the case of the corporation, the
shareholders (Duffy 2002; Schwartz 1983).
Some authors have argued that “[b]ecause
shareholder democracy has become an integral
and growing part of a broader democratic process,
undermining shareholder democracy results in
undermining the democratic process in our soci-
ety as a whole”(Matheson and Nicolet 2019).
Thus, democratic theories and processes which
underpin democracies elsewhere ought to be
reinforced and extended into other contexts,
including the corporation. Other authors have dif-
ferentiated the “democratic”systems of the cor-
poration and the state. Differentiating factors
include, first, that not every stakeholder has a
vote in the corporation, whereas all adults have a
vote in a democratic society (Duffy 2002). Sec-
ond, unlike shareholders, voters in a democratic
society have equal voting powers (Duffy 2002). In
the corporation, some shareholders may hold sig-
nificant blocks of shares and so have inordinately
large voting rights. Finally, the mobile nature of
the right to vote differentiates “democracy”in
corporations and states (Duffy 2002). In corpora-
tions, shareholders can sell their shares, transfer-
ring voting rights and duties to purchasers.
Shareholder Democracy: Definition
Although “shareholder democracy”is not a sin-
gle, undisputed concept (Garrett 1956; Schwartz
1983), it refers broadly to the idea that share-
holders should regain some of the power over
the corporation that has been lost as a result of
the increased power of the board of directors in the
management and decision-making of the corpora-
tion. It suggests that shareholders should have
more control and a more active role in the affairs
of the corporation (Garrett 1956; Gower 1955)–
contrary to the ideas underpinning the “board
primacy”approach.
Notably, “[s]hareholder democracy refers to
the ability of shareholders to dictate or influence
the policy, governance, functions, and decisions
of the corporation, either directly or through the
board of directors and management, as a result of
shareholders’ownership rights”(Matheson and
Nicolet 2019). Consequently, shareholder democ-
racy “attempts to give the ordinary shareholder a
meaningful position in his [sic] relation to modern
publicly-held corporations”(Garrett 1956).
Reasons for and Against Shareholder
Democracy
Several justifications are given for shareholder
democracy. First, shareholders’efforts to increase
their participation power are motivated by their
desire to make corporate managers –officers and
directors –more accountable (Fairfax 2008;
2 Shareholder Democracy
Fairfax 2009; Smythe 2006). “Ultimately, many
shareholders and their proponents believe that
expanding shareholder democracy will lead to
greater managerial accountability, thereby curb-
ing managers’abuses of authority and ensuring
that managers pay heed to shareholders’con-
cerns”(Fairfax 2008).
A second reason relates to agency problems
and the potential conflict of interests that may
arise between shareholders and managers
(Bebchuk 2007; Schwartz 1983). Although direc-
tors, conceived as agents of shareholders, are
expected to act in alignment with shareholders’
interests, they may in fact pursue their own inter-
ests in opposition to those of the shareholders.
Shareholder democracy attempts to reduce this
issue by involving shareholders more intimately
in review, opinion, and decision-making. Third,
there is a normative argument: it is argued that as
the corporation’s owners, shareholders are enti-
tled to have greater participation in governance
(Matheson and Nicolet 2019). Since shareholders
are the owners of the corporation, they and not the
directors are entitled to control the company.
Finally, shareholder democracy advocates
argue that “shareholders are the sole residual
claimants and, as such, are in the best position to
exercise control for the good of all corporate con-
stituents”(Hayden and Bodie 2010). Residual
claimants, the last actors to receive payment
from a corporation, are at the greatest risk. As a
result of this risk, shareholder democracy advo-
cates argue that shareholders should have greater
control over the affairs of the corporate body.
Criticisms of shareholder democracy are
mainly based on efficiency arguments. From an
efficiency perspective, shareholder democracy is
an inappropriate approach because, collectively,
shareholders cannot manage the corporation effi-
ciently (Garrett 1956). Board primacy advocates
argue that the successful management of corpora-
tions rests upon a clear and significant separation
of powers between the shareholders as owners and
the directors as managers (Garrett 1956). Other
criticisms are based upon the possibility that some
shareholders may be seeking to advance their own
personal or political agendas (Fairfax 2008), or
that shareholder empowerment benefits some
shareholders more than others (Fairfax 2008), or
that the interests of some shareholders –such as
hedge funds –are opposed to the interests of the
corporation’s stakeholders more broadly (Fairfax
2008), or that “activist shareholders with only
short-term interests may seek, and bring about,
substantial changes that harm the prospects of
some of the corporation’s long-term goals”
(Matheson and Nicolet 2019).
Strategic Focuses of Shareholder
Democracy Advocates
Shareholder democracy is promoted through var-
ious strategies designed to give shareholders more
power and control. Shareholder democracy first
has focused on shareholders’voting power
(Fairfax 2008; Fairfax 2009; Feis 1976). Enhanc-
ing shareholders’voting power increases the
authority of this corporate body vis-à-vis the cor-
poration (Fairfax 2009). Shareholder democracy
seeks to enhance shareholder’s voting power by
reducing corporate management’s control of the
proxy machinery –the management’s power to
recommend candidates for nomination to the
board and its relationships with significant share-
holders who will delegate their voting rights or
support the management’s recommendations
(Fairfax 2008; Fairfax 2009; Garrett 1956;
Matheson and Nicolet 2019). “It has been asserted
that the proxy statement is not the exclusive prop-
erty of the management, and that those who chal-
lenge the management should have the right to
include their independent nominations for direc-
tors in the management’s proxy statement”
(Garrett 1956).
Another way to enhance shareholders’voting
power and improve shareholder democracy is by
establishing a system of annual elections rather
than a system of staggered boards (Bebchuk 2007;
Fairfax 2008). Shareholder democracy advocates
view staggered/classified boards “as an entrench-
ment device that makes it difficult to replace the
entire board in a single year”(Matheson and
Nicolet 2019). Another way to enhance voting
rights is to establish a majority voting regime
instead of a plurality system (Fairfax 2008;
Shareholder Democracy 3
Matheson and Nicolet 2019). Finally, voting
power can be increased by the elimination of
supermajority voting rules and the separation of
the positions of the CEO and the chair of the board
(Fairfax 2008).
A second strategy of shareholder democracy
advocates has focused on shareholder advisory
resolutions. These resolutions allow shareholders
to submit proposals for action at a general meeting
of shareholders (Fischel 1982; Garrett 1956;
Matheson and Nicolet 2019). “This shareholder
proposal process represents one of the only formal
mechanisms available for shareholders not only to
initiate dialogue, but also to potentially initiate
corporate programs or policies on a given issue.
As such, that process represents a critical compo-
nent of shareholder activism”(Fairfax 2008).
Other strategies advanced by shareholder
democracy proponents are (1) say-on-pay rules,
which allow shareholders to have a say and mon-
itor managerial pay within the corporation
(Hayden and Bodie 2010; Matheson and Nicolet
2019); (2) derivative suits, “whereby shareholders
could assert a claim against the managers for
improper conduct”(Schwartz 1983); (3) share-
holder advisory committees, where shareholders
would have the opportunity, at a minimum, to
receive information from corporate managers
and provide feedback (Matheson and Nicolet
2019); (4) stock ownership consolidation in insti-
tutional investors, giving shareholders financial
credibility and incentives to play a more active
role in the corporation (Matheson and Nicolet
2019); and (5) proxy advisory firms, which “pro-
vide research and recommendations as to how
institutional investors should vote their shares in
publicly held companies”(Matheson and Nicolet
2019).
Summary
Shareholder democracy, an off-shoot of the
“shareholder primacy”approach to corporate gov-
ernance, attempts to give shareholders more
power and a more active role in the management
and decision-making of the corporation. Share-
holder democracy is a contested concept, and
various strategies have been proposed to imple-
ment the idea. These strategies include enhancing
shareholders’voting power, strengthening share-
holder advisory resolutions, allowing derivative
suits and stock ownership consolidation in insti-
tutional investors, and creating say-on-pay rules,
shareholder advisory committees, and proxy advi-
sory firms. Shareholder democracy, its advocates
argue, is necessary because shareholders are the
corporation’s residual claimants and because it
increases the accountability of corporate man-
agers and reduces agency problems between
shareholders and managers.
References
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Duffy, M. J. (2002). Shareholder democracy or shareholder
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shareholders. University of New South Wales Law Jour-
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Fairfax, L. M. (2008). Making the corporation safe for
shareholder democracy. Ohio State Law Journal,
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Fairfax, L. M. (2009). The future of shareholder democ-
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Feis, W. J. (1976). Is shareholder democracy attainable?
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Fischel, D. R. (1982). Corporate governance movement.
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