Avner Kalay, Oguzhan Karakas, and Shagun Pant
The market value of corporate votes: theory and evidence from option prices
Journal of Finance | Volume 69, Issue 3 (Jun 2014), 1235-1271

What is the value of a corporate vote? Since the seminal work of Berle-Means (1932), it has been widely held that one of the most important contractual rights that shareholders have is the right to vote in corporate elections. Estimating the value of the voting rights embedded in stocks is important to our understanding of corporate control, but is not trivial. In our paper, "The Market Value of Corporate Votes: Theory and Evidence from Option Prices" (Kalay-Karakas-Pant (JF 2014)), we propose a new method to measure the market value of shareholder voting rights.

We quantify the value of voting rights as the difference in the prices of the stock and the corresponding synthetic stock. The synthetic (non-voting) stock is constructed using option prices, particularly facilitating the put-call parity relationship. The main insight is that the owners of common stock have both cash flow rights and voting rights, whereas the holders of synthetic stock have the cash flow rights but not the voting rights. Hence, the difference in the price of the stock and the synthetic stock quantifies the value of voting rights during the expected life of the synthetic stock.

Credit risk increases after CDS introduction

Evidence on the value of voting rights thus far has been focused on three methods of estimation. First, one can compare the prices of multiple classes of shares having identical cash flow rights and differential voting rights. Second, one can consider sales of controlling blocks in publicly traded companies and compare the price paid per share for the block with the prevailing stock price right after the transaction. Third, one can quantify the value of the vote as the incremental cost of borrowing stock (implied by the equity lending fee) around the record dates related to shareholder meetings.

All approaches have advantages but also their problems. For instance, the first method requires that at least two classes of shares be publicly traded. However, only a small percent of US publicly traded companies are dual-class firms. Moreover, the two classes usually differ in their liquidity. More importantly, these samples are potentially subject to selection biases. With the second method, it is not possible to measure the value of control when the controlling block is not transferred. The potential selection bias and the small sample size are other limitations. Finally, for the third method, given that the equity lending market is negotiated, decentralized, and opaque, one cannot be certain if the reported lending rate is in fact the clearing rate in the market. Additionally, the value of the vote inferred from prices in the equity lending market can be significantly downward biased. With our technique, one can estimate the market value of voting rights attached to a stock, as long as the stock has call and put option pairs with the same maturity and strike price traded. Thus, our method can be used to estimate the voting premium for a large cross section of stocks at any point in time.

Voting rights are worth 2% of stock price

Empirically, using our measure of the voting rights for 4,768 public firms in the US over 1996-2007, we estimate the mean annualized value of a voting right to be 1.58% of the underlying stock price. This compares to 1-10% for the value of vote estimate with other methods for US public firms. Zingales (QJE-1995) notes “...the price of a vote is determined by the expected additional payment vote holders will receive for their votes in case of a control contest.” This would imply that the value of voting rights depends on both the probability that a voting event occurs and the economic significance of such a voting event. As such, the value of voting rights is expected to be time-varying. Consistent with this theory, we find the value of voting rights to increase around shareholder meetings that are likely to be more contentious - such as special meetings (see Figure 1), meetings with a high-ranking agenda (e.g., antitakeover, mergers & reorganizations), and meetings with ex-post close votes.

1: Value of voting rights around shareholder meetings
kalay-karakas-pant
The value of voting rights increases around contentious meetings.

In addition to shareholder meetings, we analyze episodes of hedge fund activism and M&A events. We find that the value of voting rights substantially increases for firms targeted by activist hedge funds for the period 1998 to 2008. The increase in the value of voting rights is higher for hostile engagements compared to non-hostile ones. These results are important as they demonstrate that the mere threat of a voting event is sufficient to increase the value of voting rights.

Studying the M&A events over the period 1997 to 2005, we find a substantial jump in the value of voting rights on the announcement date of an M&A event. We observe a significant drop in the value of the voting rights at the merger completion date. We document a large drop only for deals that were effective (i.e., not withdrawn).

The documented decrease in the value of shareholder voting rights at the completion of an M&A deal demonstrates that it can be optimal to exercise deep-in-the-money call options prior to expiration, even if the underlying stock pays no dividends. This might help explain some of the early exercise puzzles in the literature. To the best of our knowledge, this study is the first to point out that early exercise of call options can be optimal even in the absence of dividends on the underlying. In a similar fashion, some put option holders will find it optimal to delay exercise until after the drop in the value of the vote.

Finally, we show that the value of voting rights is not bounded by exogenous arbitrage activity - to the contrary - the value of voting rights is an important ingredient in the cost of the put-call arbitrage activity. We present evidence suggesting that transaction and shorting costs unrelated to the vote do not affect our findings.

Conclusion

Our paper contributes to the literature on corporate governance by introducing a new method using option prices to estimate the value of shareholder voting rights. The method can be used to study the determinants of the voting premium. Indeed, the method can be applied to any study focusing on corporate control. The method might also be useful for understanding control related issues in the financial regulation framework. Finally, the method has implications for the asset pricing literature as it highlights the importance of the value of voting rights in put-call parity violations. This literature does not typically account for the value of voting rights.


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