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E-MailThe following post comes to us from Mira Ganor, professor at the University of Texas School of Law. Recent work from the Program on Corporate Governance about staggered boards includes: How Do Staggered Boards Affect Shareholder Value? Evidence from a Natural Experiment (discussed on the Forum here).
The paper, Why Do Dual-Class Firms Have Staggered Boards?, which was recently made publicly available on SSRN, identifies a relatively high incidence of the combination of two of the strongest anti-takeover mechanisms: a dual-class capital structure with a staggered board. On its face this combination seems superfluous and redundant. If we already have a dual-class capital structure, why do we need a staggered board?
Even more puzzling are the results of the empirical studies of the combined use of staggered boards and dual class capital structures that find a negative correlation between staggered boards and firm value (as measured by Tobin’s Q) similar to the correlation found in firms with single class capital structures. This statistically significant and economically meaningful correlation persists even when controlling for special cases such as founder firms and family firms. Similarly, there are no significant changes in the results when controlling for effective dual class structures, i.e., dual class structures that grant de jure control and not merely the likelihood of de facto control.
Because the capital structure of a dual class firm provides ample entrenchment, entrenchment can neither fully explain the inclusion of a staggered board nor the negative correlation between a staggered board and firm value in the dual class universe. Since staggered boards and firm value are negatively correlated in dual class firms for reasons that seem unrelated to entrenchment, it follows that the negative correlation between staggered boards and firm value in non-dual class firms cannot be fully explained by entrenchment either. Thus, without the entrenchment explanation for the correlation between staggered boards and firm value, the problems of causal inference and selection effects are harder to dismiss.
We may have expected to find a positive correlation between staggered boards and firm value in firms with dual class capital structures. The potentially positive attributes of such structures, such as continuity, stability, increased independence of outside directors and ability to attract better director talent, all should work in the direction of increasing firm value. And yet, the correlation is negative.
The paper discusses a few explanations for the combined use of staggered boards and dual class structures. One of these explanations suggests that a controller may not feel sufficiently protected with only one of these mechanisms, especially given activist pressures such as the recent dismantling staggered board wave and the calls for one share one vote, and in search for an enduring and lasting entrenchment the controller may opt for the use of both mechanisms. To be sure, this explanation is in conflict with the premise that each one of these two mechanisms provides sufficient entrenchment. Alternatively, even if the controller feels secure with only one anti-takeover mechanism, the use of several mechanisms may leave room for the controller to actively engage in an apparent corporate governance improvement without losing significant control by dismantling one of such substitute mechanisms.
While this study does not shine a positive light on staggered boards, it questions the conventional wisdom that views the staggered board as a sufficient entrenchment mechanism that secures management and allows it to shirk and extract private benefits.
The full paper is available for download here.
