One-Tier Board Composition
In contrast to the dominant belief that corporate boards are most effective when they are comprised of non-executive directors, stewardship theorists argue that corporate boards should be composed of executive directors. The stewardship theory argues that non-executive directors do not always have the expertise and inside knowledge of executive directors to effectively contribute to strategic decision making. According to proponents of the stewardship theory, executive directors offer direct working knowledge to the board and may raise issues which might otherwise be neglected by the CEO (Davis, 1991; Kesner and Johnson, 1990). Insider-dominated boards are also favored ” . . . for their depth of knowledge, access to current operating information, technical expertise and commitment to the firm” (Muth and Donaldson, 1998:6). Even strong proponents of conflict approaches to board organization have recognized the benefits of management participation in corporate boards. Williamson (1985:317) - for example - indicates that the “ . . . rejection of the participating model in favor of a control model of the decision ratification and monitoring kind does not, however, imply that the management should be excluded altogether.” The author indicates that management participation on corporate boards affords three benefits:
- it permits the board to observe and evaluate the process of decision making as well as the outcomes. The board thereby gains superior knowledge of management’s competence that can help to avoid appointment errors or correct them more quickly;
- the board must make choices among competing investment proposals. Management’s participation may elicit more and deeper information than a formal presentation would permit;
- management’s participation may help safeguard the employment relation between management and the firm – an important function in view of the inadequacy of formal procedures for grievance.
Source: Williamson (1985:317).
As suggested by chapter three of this study, one-tier corporate boards are associated with insider-dominated boards (Bhagat and Black, 1997). As such, it can be suggested that one-tier boards benefit from the knowledge and expertise of executive directors when they are involved in the strategic course of corporations. Based on a consensus perspective of board organization, this observation suggests:
Assumption 3a: one-tier boards composed of a majority of executive directors are positively associated with the integration of decision management with decision control.
Interestingly, a growing body of literature challenges the assumption that boards composed of executive directors do not act in the interests of shareholders. Bhagat and Black (1997) found no convincing empirical support for a relationship between performance criteria and board composition after they had examined the composition of 934 large public corporations in the US between 1991 and 1995. Dalton et al. (1998) revealed virtually no evidence of a systematic relationship between board composition and financial performance after they reviewed a large number of studies. In another extensive review of the corporate governance literature, Donaldson and Davis (1994) also found no support for the assumption that boards composed of non-executive directors produce better outcomes than insider-dominated boards. These findings challenge the wisdom of reformers and other activists that one-tier boards should be composed of a majority of non-executive directors. In summary, research fails to prove conclusive findings on the relationship between board composition and performance criteria because:
- studies are mixed regarding whether the proportion of non-executive directors has a positive effect on overall firm performance;
- there is some support for the proposition that non-executive directors make a difference in specific transactions involving potential conflicts of interest between management and shareholders – for example, turnover due to poor firm performance, the level and structure of executive compensation, corporate acquisitions, adoption of poison pills and management buy-outs;
- certain types of non-executive directors appear to have better incentives to monitor management than others. For example, there is some evidence that directors with more additional non-executive directorships seem to act in shareholders’ interests;
- certain factors appear to affect non-executive directors’ ability to monitor management – for example, the length of non-executive directors’ tenure on the board, non-executive directors’ professional qualifications, and the length of the CEO’s tenure in office;
- there is some evidence suggesting that alternative control mechanisms, such as the market for corporate control and concentration of ownership, may substitute or complement monitoring by directors.
Source: Lin (1996:964).
These findings suggests support for the stewardship theory that one-tier board structures dominated by executive directors are not necessarily dysfunctional. In response to these findings, Bhagat and Black (1997:45) propose that .” . . the burden of proof should perhaps shift to those who support the conventional wisdom that a monitoring board – composed predominantly of independent directors – is an important element of improved corporate governance.” Seen from a more practical point of view, Donaldson and Davis (1994) state: ”We believe that it would be unwise at the present time to go along with calls to require boards of corporations to be dominated by non-executives.”
One-Tier Board Leadership Structure
While reformers and institutional investors favorably respond to the separation of CEO and chair roles, a growing number of scholars suggests that a separation of the two roles can be negatively associated with shareholder wealth. Brickley et al. (1996) state that while splitting the two titles can have potential benefits, there may be also undesirable costs associated with the separation of the roles. The authors indicate the following issues related to independent leadership structures:
- an independent chairman can monitor the CEO’s actions – but who then will monitor the chairman’s actions?;
- separating the titles necessitates the costly and generally incomplete transfer of critical information about the firm between the CEO and the chairman;
- withholding the title of chairman until a CEO has performed well during a probationary period gives the CEO an appropriate performance incentive. A permanent independent chairman eliminates this incentive, and;
- splitting the titles can be confusing – both internally and externally – about who is really in charge.
Source: Brickley et al. (1996:66).
In favor of dual board leadership structures, Dahya et al. (1996) indicate:
- combining the overlapping domains of chairman and CEO arguably represents a rationalization of the decision making process which should permit a sharper focus on company objectives and promote more rapid implementation of operational decisions;
- if the CEO is believed to be an individual of outstanding strategic vision, then it makes good practical sense that his vision should be permitted to shape the destiny of the firm with a minimum of board interference;
- the evidence that company performance is likely to be enhanced by an independent chairman is open to challenge;
- the fact that, as far as one can tell (for many large US corporations refuse to publish relevant data or to respond to questionnaires), the majority of the largest US companies prefer a dual CEO top management structure. This may suggest that, at the very least, they perceive no significant disadvantages in operational performance or in share performance from this concentration of responsibilities.
Source: Dahya et al. (1996:71-77).
According to Boyd (1994), proponents of the stewardship theory propose that dual board leadership structures facilitate effective actions by executive directors which are positively associated with firm performance. Due to the assumption that individuals seek intrinsic satisfaction as good stewards of the organization, the empowerment of the CEO leads to maximized financial performance and shareholder wealth (Donaldson and Davis, 1994). Finkelstein and D'aveni (1994) argue that CEO-duality facilitates decision making by establishing clear lines of authority and responsibility. Davis (1991:251) indicates that dual governance structures provide flexibility to respond rapidly to environmental changes: “In theory, the dual structure bypasses many of the complex, hierarchical decision making mechanisms found in the independent structure.” As suggested by the stewardship theory, dual board leadership structures integrate decision management with decision control. With respect to one-tier boards, this assumption is formalized as follows:
Based on a consensus perspective of board organization, assumption 3b suggests:
Assumption 3b: CEO-duality in one-tier boards is positively associated with the integration of decision management with decision control.
Similar to research on the relationship between board composition and firm performance, a growing number of academic observers present inconclusive findings on the relationship between board leadership structures, board independence and firm performance. In contrast to the findings of Rechner and Dalton (1991), Mallette and Fowler (1992) and Daily and Dalton (1994), Boyd (1995) found positive effects of CEO-duality on firm performance under different levels of environmental uncertainty. Boyd (1995:309) summarizes that dual leadership structures can help firm performance. The author states that the “ . . . separation of CEO and Chairman positions to appease shareholders and institutional investors may prove dysfunctional in the long term. As such, unilateral governance reform on this issue may adversely affect some firms.” Donaldson and Davis (1991) found that ROE (returns on equity) positively correlated with combined board leadership roles in a sample of 321 corporations in the US. In an extensive review of literature on board leadership structures, Daily and Dalton (1997) found mixed empirical support for the relationship between independent board leadership and firm performance. Brickley et al. (1996) also concluded after a study of 661 large, publicly traded corporations in the US that they could not find systematic differences in financial performance across different board leadership structures. The authors state: “It is far from obvious whether firms would be better or worse off if they split titles. Rather, it is incumbent upon the critics of combining the titles to present a cogent explanation for how combining the titles can be wealth-decreasing and still survive in a competitive marketplace” (Brickley et al., 1996:66). Dalton et al. (1998) even conclude that there is no relationship between board leadership structure and firm performance.
The inconclusive findings may suggest support for a consensus perspective of board organization that one-tier board structures with dual board leadership structures are not necessarily dysfunctional as suggested by a conflict perspective of board organization. Baliga et al. (1996:51) report: “Our findings stand in sharp contrast to the recommendations of those who call for the abolition of duality as a primary way to improve firm governance and performance. The finding of no significant difference in the operating performance suggests that a duality status change . . . is more a variant of the ‘scapegoating phenomenon’ . . . and a symbolic way of ‘signaling’ that the board is effectively exercising its governance role . . . than an effective way of motivating fundamental change in firm performance.”
Competing Perspectives on Board Leadership Structures
Source: Daily and Dalton (1997:13).
One-Tier Board Committees and Board Organization
Stimulated by codes of best practices and the listing requirements of the NYSE and other stock exchanges, one-tier boards often provide independent oversight committees such as audit, compensation and nominating committees. Seen from a consensus perspective of board organization, organizational structures that discourage the role of management in the governance of the corporation - such as these independent oversight board committees - may not facilitate the integration of boards’ decision management roles with boards’ decision control roles (Maassen and van den Bosch, 1999a). This observation is formalized by the following assumption:
Based on a consensus perspective of board organization, assumption 3c suggests: independent oversight board committees of one-tier boards are negatively associated with the integration of decision management with decision control.
As reported previously in chapters two and three of this study, the unitary structure of one-tier boards is associated with the integration of decision management with decision control. As suggested by Rechner and Dalton (1991), Sheridan and Kendall (1992), Tricker (1984, 1994) and Cadbury (1995), the unitary structure of one-tier boards facilitates the concentration of the service and control roles of boards in the hands of executive directors. In the unitary board, executive and non-executive directors work together. According to Davis (1991), the unitary structure facilitates the exchange of information between executive and non-executive directors, may avoid unnecessary bureaucracy and may improve the quality of decision making. As such, based on a consensus perspective of board organization, assumption 3d suggests:
Assumption 3d: the unitary structure of one-tier boards is positively associated with the integration of decision management with decision control.
Research on board committees, the unitary organization of boards and board independence is limited. Most literature is anecdotal and descriptive of nature. The extensive meta-analytic reviews of Dalton et al. (1998) and Donaldson and Davis’(1994) of the corporate governance literature do not provide an overview of research on board committee composition, board independence and financial performance criteria. Yet, research on board committees shows the potential to become as inconclusive as research on board composition and board leadership structures. Recent research - for example - suggests support for a consensus perspective of board organization that insider-dominated oversight board committees are not necessarily dysfunctional as suggested by a conflict perspective of board organization. Daily et al. (1988) report that they found no evidence of a systematic relationship between the composition of compensation committees and levels of CEO compensation. According to the authors, “these results are particularly intriguing given the emphasis both academics and the institutional investment community are placing on director independence” (Daily et al., 1998:215).
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