The Virtue of Common Ownership in an Era of Corporate Compliance

• Author: Asaf Eckstein
• Position: Assistant Professor, Ono Academic College, Faculty of Law
• Pages: 507-573

507

The Virtue of Common Ownership in

an Era of Corporate Compliance

Asaf Eckstein*

ABSTRACT: Recent years have seen a tremendous rise in common ownership,

a structure in which large institutional investors have significant holdings

in corporations that are horizontal competitors. Common ownership has long

been the topic of scholarly debate with many scholars traditionally arguing

that common ownership presents antitrust problems. Rather than enter into

the antitrust debate, this Article argues that common ownership presents great

virtue for corporate governance, and more specifically—corporate compliance.

In recent years the Department of Justice and other enforcement authorities

have increasingly directed their resources towards enforcing laws that are

typically oriented towards specific industries, such as healthcare

(pharmaceuticals), financial and energy industries, or geographic areas.

These laws—including the Foreign Corruption Practices Act, False Claims

Act, Bank Secrecy Act, as well as laws and regulations aimed at preventing

money laundering, environmental, and antitrust violations—expose

companies associated with specific industries to heavy legal risks—which I

term “macro legal risks.”

This Article argues that institutional investors who hold shares in

corporations in line with the common ownership structure are uniquely

positioned to enhance the compliance of those corporations with industry-

oriented laws, and to minimize exposure to macro legal risks. Institutional

investors who invest in corporations that operate in the same industry can

take advantage of three interrelated merits of common ownership:

(1) enhanced incentives for monitoring compliance of corporations with

industry-oriented laws, which accordingly leads to minimizing macro legal

risks; (2) privileged access to rulemaking and lawmaking; and

*

Assistant Professor, Ono Academic College, Faculty of Law. I benefitted from discussions

with and comments from Adi Ayal, Lucian A. Bebchuk, Jill E. Fisch, Zohar Goshen, Assaf

Hamdani, Sharon Hannes, Ehud Kamar, Jacob Nussim, Kobi Kastiel, Beni Lauterbach, Gideon

Parchomovsky, Edward B. Rock and Benjamin Weitz, and the participants of the 12th Annual

Columbia-Ono Conference (2018), the Tel-Aviv University Seminar of Corporate Governance

(2018) and the Faculty Workshop at Ono Academic College (2018). I am grateful for the

research assistance of Michal Salomon and Rinat Hollander. Generous financial support was

provided by the Raymond Ackerman Chair fo r Corporate Governance, Bar-Ilan School of Business.

508 IOWA LAW REVIEW [Vol. 105:507

(3) experimental learning of macro legal risks. These merits allow

institutional investors to better monitor corporations in which they invest and

practice effective corporate governance and compliance.

The incentives of institutional investors increase due to increased aggregate

exposure to problems affecting a certain industry. The difficulty of responding

to these problems decreases as institutional investors are able to apply a one-

size-fits-all approach to these problems, rather than develop individualized

solutions for specific corporations. Due to their status as major asset holders,

institutional investors develop close relationships with regulators and

lawmakers, giving them a chance to influence regulation beyond the normal

notice and comment process and anticipate trends in law and regulation.

Finally, as a result of their wide holdings, institutional investors can apply

knowledge gained in investigations and enforcement proceedings against a

corporation to prevent these from happening to other corporations within the

industry.

This Article is the first to analyze the benefits of common ownership in the

area of corporate compliance. It argues that in an era of increasing

enforcement based on industry-oriented characteristics, institutional investors

who invest in line with a common ownership structure will become more active

in overseeing corporate compliance and more effective in minimizing corporate

wrongdoing.

I. INTRODUCTION ............................................................................. 509

II.THE COMMON OWNERSHIP DEBATE ............................................. 517

III.THE CHANGING LANDSCAPE OF CORPORATE LAW—A SURVEY

OF MACRO LEGAL RISKS ................................................................ 520

A.FOREIGN CORRUPTION PRACTICES ACT .................................... 520

B.FALSE CLAIMS ACT .................................................................. 523

C.BANK SECRECY ACT AND ANTI-MONEY LAUNDERING ................. 527

D.ENVIRONMENTAL LAW ............................................................. 529

E.ANTITRUST ............................................................................. 531

F.CONCLUDING THOUGHTS ........................................................ 534

IV.THE NATURE OF MACRO-LEGAL RISKS: OBSERVABILITY AND

VERIFIABILITY ................................................................................ 534

V.THE VIRTUE OF COMMON OWNERSHIP IN AN ERA OF

CORPORATE COMPLIANCE ............................................................ 538

A.INCENTIVES ............................................................................. 538

1.Low Costs of Identifying and Responding to

the Macro Legal Trends ............................................... 539

2020] THE VIRTUE OF COMMON OWNERSHIP 509

2.Aggregate Risk and Costs Associated with Being

Penalized ........................................................................ 547

3.Examples and Illustrations ........................................... 550

4.Summing Up ................................................................. 554

B.PRIVILEGED ACCESS TO POLICYMAKING .................................... 555

C.EXPERIMENTAL LEARNING ....................................................... 561

VI. POTENTIAL OBJECTIONS—BOARD INTERLOCKS AND

PROFESSIONAL ADVICE .................................................................. 564

VII. IMPLICATIONS ............................................................................... 566

VIII. CONCLUSION ................................................................................ 568

APPENDIX A .................................................................................. 569

I. INTRODUCTION

“Common ownership” describes a structure in which a small group of

large institutional investors hold significant stakes in multiple firms in the

same industry. Put differently, it refers to a structure in which institutional

investors have significant ownership in horizontal competitors.1 To illustrate,

giant asset managers BlackRock, Vanguard, State Street Advisors and Fidelity

are the top shareholders in each of the six largest banks in the United States:

JPMorgan Chase, Wells Fargo, Bank of America, Citigroup, U.S. Bank and

PNC.2 These giant asset managers enjoy common ownership in other

industries, including the airline, energy, and pharmaceutical industries.3

Between 1980 and 2012 common ownership rates increased by 1600 percent

to 2300 percent, depending on the method used to measure common

ownership.4 The emergence of this common ownership structure is attributed

mainly to investors’ decision to shift away from actively managed funds to

passively managed index funds designed to replicate the return of a selected

1. Einer Elhauge, Horizontal Shareholding, 129 HARV. L. REV. 1267, 1267 (2016). This

structure is also called “cross-ownership.” See, e.g., Edward B. Rock & Daniel L. Rubinfeld, Defusing

the Antitrust Threat to Institutional Investor Involvement in Corporate Governance 3–4 (N.Y. Univ. Law

& Econ. Research Paper Series, Working Paper No. 17-05, 2017), available at https://

papers.ssrn.com/sol3/papers.cfm?abstract_id=2925855 [https://perma.cc/73HC-ASTC].

2. See, e.g., José Azar et al., Ultimate Ownership and Bank Competition 44 tbl.1 (May 4,

2019) (unpublished manuscript), available at https://papers.ssrn.com/sol3/papers.cfm?

abstract_id=2710252 [https://perma.cc/SW34-K6AT].

3. See, e.g., José Azar et al., Anticompetitive Effects of Common Ownership, 73 J. FIN. 1513, 1514

–16 (2018) [hereinafter Azar et al., Anticompetitive Effects].

4. Erik P. Gilje et al., The Rise of Common Ownership 19 (Apr. 19, 2018) (unpublished

manuscript), available at https://ecgi.global/sites/default/files/The%20Rise%20of%20

Common%20Ownership%20Paper.pdf [https://perma.cc/D4J4-X3YR].