318 Part 3: Strategic Actions: Strategy Implementation
In general, diffuse ownership (a large number of shareholders with small holdings
and few, if any, large-block shareholders) produces weak monitoring of managers’ deci-
sions. One reason for this is that diffuse ownership makes it difficult for owners to effec-
tively coordinate their actions. As noted earlier, diversification beyond the shareholders’
optimum level can result from ineffective monitoring of managers’ decisions. Higher
levels of monitoring could encourage managers to avoid strategic decisions that harm
shareholder value, such as too much diversification. Research evidence suggests that
ownership concentration is associated with lower levels of firm product diversification.^47
Thus, with high degrees of ownership concentration, the probability is greater that man-
agers’ decisions will be designed to maximize shareholder value.^48 However, the influence
of large-block shareholders is mitigated to a degree in Europe by strong labor represen-
tation on boards of directors.^49
As noted, ownership concentration influences decisions made about the strategies
a firm will use and the value created by their use. In general, ownership concentration’s
influence on strategies and firm performance is positive. For example, when large-block
shareholders have a high degree of wealth, they have power relative to minority share-
holders to appropriate the firm’s wealth; this is particularly the case when they are in
managerial positions. Excessive appropriation at the expense of minority shareholders is
somewhat common in emerging economy countries where minority shareholder rights
often are not as protected as they are in the United States. In fact, in some of these coun-
tries, state ownership of an equity stake (even minority ownership) can be used to control
these potential problems.^50 The importance of boards of directors to mitigate excessive
appropriation of minority shareholder value has been found in firms with strong family
ownership where family members have incentives to appropriate shareholder wealth,
especially in the second generation after the founder has departed.^51 In general, family-
controlled businesses will outperform nonfamily controlled businesses, especially smaller
and private firms because of the importance of enhancing the family’s wealth and main-
taining the family business.^52 However, families often try to balance the pursuit of eco-
nomic and noneconomic objectives such that they sometimes may be moderately risk
averse (thereby influencing their innovative output).^5310-2a The Increasing Influence of Institutional Owners
A classic work published in the 1930s argued that a separation of ownership and control
had come to characterize the “modern” corporation.^54 This change occurred primarily
because growth prevented founders-owners from maintaining their dual positions in
what were increasingly complex companies. More recently, another shift has occurred:
Ownership of many modern corporations is now concentrated in the hands of institu-
tional investors rather than individual shareholders.^55
Institutional owners are financial institutions, such as mutual funds and pension
funds, that control large-block shareholder positions. Because of their prominent owner-
ship positions, institutional owners, as large-block shareholders, have the potential to be
a powerful governance mechanism. Estimates of the amount of equity in U.S. firms held
by institutional owners range from 60 to 75 percent. Recent commentary suggests the
importance of pension funds to an entire economy: “Pension funds are critical drivers of
growth and economic activity in the United States because they are one of the only sig-
nificant sources of long-term, patient capital.”^56
These percentages suggest that as investors, institutional owners have both the size
and the incentive to discipline ineffective top-level managers and that they can signifi-
cantly influence a firm’s choice of strategies and strategic decisions.^57 As the Opening
Case indicates, institutional and other large-block shareholders are becoming more
active in their efforts to influence a corporation’s strategic decisions, unless they have aInstitutional owners are
financial institutions, such as
mutual funds and pension
funds, that control large-block
shareholder positions.