Sunday, April 14, 2013
The Myth that Insulating Boards Serves Long-Term Value, by Lucian A. Bebchuk, Harvard Law School; National Bureau of Economic Research (NBER); European Corporate Governance Institute (ECGI), was recently posted on SSRN. Here is the abstract:
According to a central and influential view in corporate law writings and debates, shareholder interventions, and the fear of such interventions, lead companies to take myopic actions that are costly in the long term; consequently, it is claimed, insulating boards from such pressure serves the long-term interests of companies as well as of their shareholders. This board insulation claim has been regularly invoked in a wide range of contexts to support limits on shareholder rights and involvement, and has had considerable success and influence. In this paper, I subject this view to a comprehensive examination, and I find it wanting.
In contrast to what insulation advocates commonly assume, short investment horizons and imperfect market pricing do not imply that board insulation will be value-increasing in the long term. I show that, even assuming such short horizons and imperfect pricing, shareholder activism, and the fear of shareholder intervention, will produce not only long-term costs but also some significant countervailing long-term benefits.
Furthermore, there is a good basis for concluding that, on balance, the negative long-term costs of board insulation exceeds its long-term benefits. To begin, the behavior of informed market participants reflects their beliefs that shareholder activism, and the arrangements facilitating it, are overall beneficial for the long-term interest of companies and their shareholders. Moreover, a review of the available empirical evidence provides no support for the claim that board insulation is overall beneficial in the long term; to the contrary, the body of evidence favors the view that shareholder engagement, and arrangements that facilitate it, serve the long-term interests of companies and their shareholders.
I conclude that the claims made by insulation advocates have a shaky conceptual foundation and are not supported by the data. Policy makers and institutional investors should reject arguments for board insulation in the name of long-term value.