The monitoring role of institutional investors

Purpose - This paper aims to examine the monitoring role of institutional investors in corporate decision-making by classifying financial institutions based on geographical proximity and investment horizon from 1980 to 2014. Design/methodology/approach - By using unique data sets on firm and institution location and investor horizon measure (Gasparet al., 2005), the authors categorize institutional investors into six proximity-horizon classifications. This method captures the heterogeneity of investors. The corporate decisions assessed include firm investment, financing, payout policy, misbehavior, takeover defenses and profitability. Findings - Both geographical proximity and investment horizon are directly related to institutional investors' monitoring cost. As a result, the effectiveness of institutional monitoring may vary based on geographical proximity and investment horizon. This paper collectively examines both dimensions of financial institutions and provides evidence that institutional investors present different preferences for corporate policies. Given stronger information advantage, both local and nonlocal investors that are long-term oriented fulfill better roles in monitoring corporate decisions but from different perspectives. Research limitations/implications - Different from previous studies that treat institutional investors homogeneously, this paper provides empirical support that investors are indeed different in influencing firm policies. Originality/value - To the authors’ best knowledge, this is the first study that classifies investors based on two dimensions, geographical proximity and investment horizon, and examines their joint effects on corporate policies. This proximity-horizon classification allows the authors to better disentangle the effects of institutional ownership structure on the monitoring outcomes.