Thursday, August 24, 2006

Does friendliness trump independence?


SUPER Quick version: if the threat of monitoring causes managers to withhold information, the advising aspect of a board is impaired and the firm suffers. A solution may be a portion of the board that advises and a portion that monitors, which while often unweildy is exactly what happens in many European nations.

From the University of Queenland's Newsletter:
"Research by UQ Business School's Professor Renée Adams [and Daniel Ferreira] suggests that increasing the independence of boards may not be so good for shareholders.
and later:
"She said the research showed that emphasising director independence may have adverse consequences in the sole board system but would "unambiguously" enhance shareholder value in a dual board system.

“By delegating monitoring roles to audit and remuneration committees, a sole board takes on the nature of a dual board. Thus, our results imply that emphasising independence of committee members is likely to result in good outcomes for shareholders,” Professor Adams said.

“But, when a management-friendly board is optimal, one should expect other governance mechanisms to pick up the slack.” "

The abstract from SSRN:
" This paper analyzes the consequences of the board's dual role as an advisor as well as a monitor of management. As a result of this dual role, the CEO faces a trade-off in disclosing information to the board. On the one hand, if he reveals his information, he gets better advice. On the other hand, a more informed board will monitor him more intensively. Since an independent board is a tougher monitor, the CEO may be reluctant to share information with it. Thus, our model shows that management-friendly boards can be optimal...."

Look for it in a forthcoming Journal of Finance!

Adams, Renee B. and Ferreira, Daniel, "A Theory of Friendly Boards" . Journal of Finance, Forthcoming Available at SSRN: or DOI: 10.2139/ssrn.453960

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