Understanding the Board of Directors after the Financial Crisis

The following post comes to us from Joseph A. McCahery and Erik P. M. Vermeulen, both of Tilburg University Law School.

Research on the composition and structure of the board of directors is a thriving subject in the aftermath of the financial crisis. The discussion thus far has assumed that finding the right board members is extremely important because they tend to enhance corporate strategy and decision-making. Consider the case of Apple’s board. Following Steve Jobs’ return to the firm in 1997, he understood well the important role of the board of directors to both improve company productivity and build relationships with its suppliers and customers. In order for the board of directors to become a competitive advantage and help carry Apple forward, its members needed to have a thorough understanding of the computer industry and the firm’s products. Accordingly, a change in the composition of the board of directors was arguably a necessary first step to bring back focus, relevance and interaction (with the outside world) to the company in its journey to introduce disruptive innovations and creative products to its customers. The result was impressive: Between August 6th, 1997 (the day the “new” board was introduced) and August 23rd, 2011 (the last day of Jobs as the CEO of Apple), the stock price soared from $25.25 to $360.30, increasing 1,327 per cent.

Yet an important question emerged, after Jobs passed away in 2011, as to whether the composition of the Apple board would be altered. Corporate governance experts knew the answer. The disappearance of a dominant CEO coincided with a call for members of the board to promote and support good governance by demanding more transparency, accountability and oversight. Unsurprisingly, however, the composition and orientation of the board of directors has so far not undergone the expected major transformation. That is not to say that one should not expect changes to the composition of Apple’s board. Recently, Carl Icahn stated in a letter to Tim Cook that Apple’s board has “a responsibility to recognize opportunities to increase shareholder value.” He argued that it is time to appoint a board member with financial expertise. His statement underscored the importance of board dynamics and composition as key corporate governance mechanisms.

The discussions around the composition and organization of Apple’s board and the recent interest in superior firm performance show that the role of the board is broader than reducing managerial misbehavior and building long-termism in listed companies. In our paper, Understanding the Board of Directors After the Financial Crisis, which was recently made available, my co-author, Erik Vermeulen, and I construct a third dimension to corporate governance, which is usually associated with innovation and value creation, to identify the characteristics of independent directors associated with the expertise, skills, capabilities and affinities that can help create a market leading company. We focus on important board corporate governance characteristics, including gender diversity, optimal board size, remuneration, board evaluation processes and the role of the chairman of the board. We do not attempt to explain all the corporate governance variations in firms. Clearly, we acknowledge that the corporate governance mechanisms that contribute to value creation are difficult to capture in a one-size-fits-all and pre-defined rulebook. However, we utilize our database of 110 listed companies to investigate the influence of the third dimension in the composition and workings of the board. We attempt to show that there are some general points of good practice, which could provide companies with a competitive advantage.

Next we highlight the characteristics common to directors appointed to boards of growth-oriented companies. Specifically, the paper considers what we can learn from these companies. In order to supply an answer, we make use of two hand-collected data sets that consist of seventy venture capital backed companies that were involved in IPOs on US stock markets between 2011 and the first half of 2012 (VC-70), and the top-forty of the world’s largest companies in the Financial Times Global 500 2012 List (including corporations from the United States, Europe and Asia) (FT-40). We find that venture capitalists, with their specific expertise and experience, continue to play an important role as independent board members in the post-IPO period. We also address importance of diversity showing that there are significant differences between the companies in terms of age, gender diversity and business expertise (which is dependent on the stage in the company life-cycle). Our results show that women on boards bring greater diversity in knowledge and skills.

The full paper is available for download here.

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