Variation in the Monitoring Incentives of Outside Stockholders

We examine abnormal returns around the announcement of antitakeover amendment proposals for evidence on variation in the effectiveness of monitoring by outside stockholders. The evidence suggests that the market views large stockholders who are outsiders but have potential business ties to a firm (affiliated blockholders) as less effective monitors than other outside blockholders (unaffiliated blockholders). Abnormal returns tend to be lower at firms where holdings of affiliated blockholders exceed holdings of unaffiliated blockholders than at firms where the reverse is true. The difference in the stock ownership of these two classes of blockholders explains more of the variation in abnormal returns than factors such as management stock ownership and board composition. The evidence for affiliated and unaffiliated blockholders is consistent when we focus on the relation between abnormal returns and institutional ownership. No evidence is found of systematic variation in the effectiveness of monitoring by institutional stockholders who are not blockholders.