Institutional Investors and their Role in Corporate Governance (2024)

An institutional investor is a company or organization that invests money on behalf of other people.

Characteristics of Institutional Investors

• They don't use their own money, rather others' money to make large investments.
• They enjoy less regulatory protection because it is assumed they are more knowledgeable about the risk of the markets and better able to protect themselves.
• By virtue of their size and volume of investments made by them, they can negotiate for lower transaction costs, higher fees and faster execution.
• They gain access to certain investment opportunities that normal investors cannot, such as those requiring large minimum buy-ins.

The term, Elephant, refers to an Institutional Investor that has the ability to influence the market by itself because of the large quantities that it trades. Institutional investors, by their very nature, carry significant clout in financial markets. They move hefty positions, both short and long, which constitute a large portion of the transactions in exchanges. Thus, their dealings have a notable influence over the supply and demand dynamic of securities. In fact, institutional investors today make up more than 90% of all stock trading activity. As a result, they have an impact on the prices of different securities as well.

Types of Institutional Investors

Difference Between Institutional and Private / Retail Investors

Role of Institutional Investors in Corporate Governance

Institutional investors play a significant role in corporate governance by leveraging their substantial holdings in companies to influence their behavior and decision-making. Following are some key aspects of their role:

• Active Ownership: Institutional investors often hold large stakes in multiple companies. They can actively engage with company management and boards to advocate for better governance practices, sustainable strategies, and responsible behavior.
• Voting Power: Institutional investors participate in shareholder voting on matters such as electing directors, executive compensation, mergers, and other critical decisions. Their votes can shape the outcome of these issues and hold management accountable.
• Proxy Voting: Institutional investors use proxy voting to cast votes on behalf of the shares they manage. They analyze company proposals, proxy statements, and recommendations from proxy advisory firms to make informed voting decisions.
• Engagement: Through ongoing dialogue and engagement, institutional investors communicate their concerns and expectations to company management. This can cover various topics, including ESG (environmental, social, and governance) considerations, strategic direction, risk management, and board composition.
• Shareholder Resolutions: Institutional investors can propose shareholder resolutions addressing governance, social, or environmental issues. These resolutions give other shareholders an opportunity to express their support for specific changes in company policies.
• Board Nominations: Some institutional investors have the right to nominate directors to the board. This allows them to influence board composition and bring in individuals who align with their values and perspectives.
• Stewardship Codes: Many countries have developed stewardship codes that encourage institutional investors to actively engage with companies and promote good governance practices.
• Long-Term Value Creation: Institutional investors often have a vested interest in the long-term success of the companies they invest in. As such, they may advocate for strategies that prioritize sustainable growth and value creation over short-term gains.
• Risk Management: By engaging with companies on risk-related issues, institutional investors help mitigate potential risks that could affect their investments. This includes issues related to corporate ethics, cybersecurity, and regulatory compliance.

Hence, institutional investors act as stewards of their clients' assets and have the influence to shape corporate behavior in ways that align with long-term value creation and responsible business practices.

Institutional Investors in India

Institutional Investors’ engagement has helped foster better transparency, accountability, and sustainability within the Indian corporate landscape. The following points highlight the evolving and influential role that institutional investors play in shaping corporate governance practices in India.

• Proxy Voting and Shareholder Resolutions: Institutional investors in India, such as mutual funds and pension funds, actively participate in proxy voting during shareholder meetings. They use their voting power to influence decisions related to board appointments, executive compensation, mergers and acquisitions, and other governance matters.
• Stewardship Codes: The Securities and Exchange Board of India (SEBI) introduced the "Stewardship Code" in 2020, encouraging institutional investors to adopt transparent and responsible investment practices. This code emphasizes active engagement with investee companies, voting based on well-defined policies, and monitoring their investments.
• Activism and Shareholder Activists: Some institutional investors engage in shareholder activism, taking public positions on certain issues to influence corporate behavior. For example, they might call for improved corporate governance, changes in strategic direction, or enhanced sustainability efforts.
• Institutional Investor Associations: Organizations like the Association of Mutual Funds in India (AMFI) and the Institutional Investor Advisory Services (IiAS) provide guidelines and recommendations to institutional investors regarding their role in corporate governance.
• Regulatory Compliance: Institutional investors in India are subject to SEBI regulations that guide their governance-related practices, including voting policies, disclosure requirements, and engagement processes.