Tuesday, May 18, 2010
Last night I attended a fascinating lecture at Stanford’s Rock Center for Corporate Governance by Delaware Vice Chancellor Strine about the lack of alignment in the corporate governance system. Speaking to a packed crowd, Chancellor Strine made a compelling case for a deeper understanding of what we are asking of boards through our various corporate governance reforms. Among his many interesting points, he made two important insights about the role of directors on boards. First, he asked academics to work on “a more or less study” that looks at (i) what more have we given managers to do? and (ii) what less have we required of them? His point was essentially that we have imposed stringent independent director requirements and then heaped more and more responsibility on these independent directors. One worry is of course that humans are bound to make mistakes especially when they have too much on their plates. The other worry is whether these independent directors have the time, skills and company-specific knowledge to effectively manage and monitor risks.
Chancellor Strine’s second point about independent directors was that the increasing push for independent directors has resulted in independent director politicians that serve on many boards and may be beholden to other interests outside of the interests of the particular company that they are serving. These latter comments made me think about a recent paper entitled, The Dark Side of Outside Directors: Do They Quit When They are Most Needed? by Rüdiger Fahlenbrach, Angie Low and Rene M. Stulz. It’s worth a read:
Abstract: Outside directors have incentives to resign to protect their reputation or to avoid an increase in their workload when they anticipate that the firm on whose board they sit will perform poorly or disclose adverse news. We call these incentives the dark side of outside directors. We find strong support for the existence of this dark side. Following surprise director departures, affected firms have worse stock and operating performance, are more likely to suffer from an extreme negative return event, are more likely to restate earnings, and have a higher likelihood of being named in a federal class action securities fraud lawsuit.
Tomorrow, I’ll post about how Chancellor Strine’s comments relate to some important issues in corporate governance reforms outside of the United States.