3.3.4.2 Strategic Voting

As the previous examples illustrate, conflicted voting occurs when a shareholder ignores his or her judgment on which option maximizes shareholder value because that shareholder has a different preference than shareholder value maximization. Interestingly, it may be rational for shareholders who do prefer shareholder value maximization to also ignore their own judgment on which option maximizes shareholder value. Before deciding how to vote, such shareholders take into account the expected voting behavior of other shareholders and then vote strategically.

Suppose that a shareholder holds a small stake and that all outstanding shares will be voted in a proxy contest. To see how this shareholder can increase the probability of a correct majority vote by voting strategically, consider that a shareholder 's vote matters only if his vote is pivotal.1 This implies that a rational voter should ask himself how he should vote in a state of the world where his vote is pivotal. In such a state, the shareholder should condition his voting decision on two different signals. The first is the private signal he would also receive in a state of the world where his vote is not pivotal, containing incomplete information on the value implications of the challenger winning the proxy contest. The second signal arises from being pivotal, which is that almost half of the votes will have been cast in favor of the challenger.

What information can the pivotal shareholder infer from the second signal? Suppose she knows that incumbent management holds ten percent of the shares, which it can be expected to vote in its own support to secure private benefits.2 She will then be able to infer that five out of nine—i.e., a majority—of outside shareholders apparently possess information that leads them to believe that the challenger is best equipped to maximize shareholder value. In this state of the world, it is optimal to vote for the challenger.3 In doing so, the shareholder effectively compensates the initial bias caused by the fact that the incumbents control ten percent of the votes.

A recent empirical study of proxy contests has found evidence that is consistent with the theory that strategic voting can increase voting efficiency by mitigating biases.4 However, research on strategic voting is still in the early stages, and there are a number of issues that complicate the picture. One is the issue of preference distribution: in practice, the exact number of votes biased toward management may not always be known, which makes it difficult to infer useful information from hypothetically being the pivotal voter.5 Most importantly for our purposes, an issue potentially arises when increasing numbers of shareholders vote strategically and in doing so ignore their own judgments on which option maximizes share value.6 At some point, the initial bias may effectively be overcompensated and cause a bias in the opposite direction. While it goes beyond the scope of this Chapter to discuss the impact of strategic voting in further detail, it is clear that the issue represents an important area for future research.

To conclude, this section has identified and explored four mechanisms that contribute to voting efficiency. In practice, none of the mechanisms will operate perfectly, nor would we necessarily want any of them to operate perfectly given the trade-offs between the various mechanisms. If, for example, all shareholders would come to judgments independently, this could adversely affect the level of informed voting given that expert opinions would not be taken into account even if they convey useful information. If all shareholders would vote rationally, this could result in more accurate judgments but also in more epistemic free riding, more abstention, and too much strategic voting. Thus, the taxonomy does not provide straightforward guidelines as to how voting efficiency can be promoted. However, it does offer insight into the determinants of voting efficiency, which in turn enables sophisticated analysis of the effects of current issues relating to shareholder voting.