Friday, November 19, 2004

SSRN-Are Busy Boards Effective Monitors? by Eliezer Fich, Anil Shivdasani

SSRN-Are Busy Boards Effective Monitors? by Eliezer Fich, Anil Shivdasani

The answer? No. That is the finding of Fich and Shivdasani who look at firms whose board members sit on multiple boards. The authors find that these firms trade at a discount relative to their peer firms. As Fich and Shivdasani put it:

"We show that firms where a majority of outside directors hold three or more board seats have significantly lower market-to-book ratios than firms where a majority of outside directors hold fewer than three board seats. Our findings differ from those reported by Ferris et al. (2003) who claim that busy boards are equally effective monitors than non-busy boards. We argue that methodological choices and the econometric specification of their tests lead to low statistical power for detecting the relation between performance and busy outside directors that we document. The negative relation between market-to-book ratios and busy outside directors is robust to a wide range of sensitivity tests."

If you are thinking about potential endogeneity problems (and you should be!) the authors beat you too it and have attempted to control for these problems. This did not change the original findings.

While this is interesting, perhaps even more interesting (and more convincing) are the findings that this lower market to book ratio is likely to be well deserved due to lower management monitoring (as measured by likelihood to replace incumbent management) and poor operating performance. The authors:
"We show that boards where the majority of outside directors hold three or more directorships are less likely to remove a CEO for poor performance. We confirm results of prior research that finds that independent boards are more likely to remove CEOs for poor performance than non-independent boards. We augment these findings by showing that this pattern holds largely when a majority of outside directors on the board are not deemed to be busy."
"Using panel-data regressions, we also find that an inverse relation holds between several accounting-based measures of operating performance and a majority of busy outside directors on the board."

Fich and Shivdasani also look at what happens when a "too busy" director leaves the board. Guess what! The stock price rises.

Need more proof? When an already too busy adds another board directorship to his/her resume, the stock prices of the other firms also drop.

VERY interesting! And if nothing else, a good reason to say no when you are asked to be on another board! Or committee for that matter ;)

Fich, Eliezer M. and Shivdasani, Anil, "Are Busy Boards Effective Monitors?" (October 2004). ECGI - Finance Working Paper No. 55/2004.

The authors also requested that the following be included:
© Eliezer M. Fich and Anil Shivdasani 2004. All rights reserved. Short sections of text, not to exceed two paragraphs, may be quoted without explicit permission provided that full credit, including © notice, is given to the source.


Anonymous said...

I downloaded the paper from SSRN. I started reading it and could not put it down. The analyses are well executed and the results expand our knowledge of firm valuation and top-manager turnover. Great paper - a must read!
Ming Wei (ABD)

Anonymous said...

The paper was presented by Anil Shivdasani in the Philly AFA conference. The presentation of the paper was great, and Fich was very able in answering the audience questions. Recently, some colleagues have done a similar study in Indian firms. The results for Indian firms are similar to those presented in Fich & Shivdasani. I think this is a ground breaking paper.

V.K. Prasad Ph.D.