Aurora Borealis
1 January 2015 CFA Institute Journal Review

Distracted Directors: Does Board Busyness Hurt Shareholder Value? (Digest Summary)

  1. Jennie I. Sanders, CFA

The effect of director busyness on shareholder value is analyzed by studying how the deaths of directors and CEOs affect the workload of surviving committee members (the treatment group) and the stock market reaction to this attention shock. Director busyness is shown to have a significantly negative impact on the quality of board monitoring and shareholder value (the treatment effect).

What’s Inside?

The implications of board busyness are isolated from such factors as talent and reputation by studying the impact of deaths among directors and CEOs for S&P 1500 Index firms between 1988 and 2007 across two groups of director-interlocked firms—a treatment group and a control group. The authors define the groups according to whether an interlocking director sits on the compensation or nominating committees; yes is the treatment group, and no is the control group. Prior research has tended to focus on S&P 500 Index or Fortune 500 firms. The death of a CEO or board member leads to an attention shock, causing an increase in workload for the treatment group but not for the control group. The stock market reaction is used to test this attention-shock hypothesis.

How Is This Research Useful to Practitioners?

The authors provide additional considerations for practitioners when evaluating potential investments. They show that attention shocks significantly damage the value of firms in the treatment group, from both a statistical and economic perspective, while having no significant effect on the value of firms in the control group. Furthermore, the average cumulative abnormal returns (CARs) from attention shocks are most profound when a death occurs within an audit committee. CARs are also most profound among firms with directors who hold a high number of directorships, those with high levels of corporate governance, those that are younger, those with smaller boards, those with more frequent board meetings, and those with more experienced directors. Attention shocks related to sudden deaths and CEO deaths also lead to a larger treatment effect. Attention shocks are shown to have both a short-term negative impact on share price and a lasting negative effect, which the authors attribute to declining earnings quality, decreasing leverage, and reduced board monitoring (i.e., higher CEO rent extraction).

How Did the Authors Conduct This Research?

The authors use a methodology similar to the difference-in-differences methodology; the treatment effect on firm value is estimated by comparing the change in firm value resulting from the death event within the treatment group and the control group. The first difference considers the firm values before and after the death event, and the second difference considers the difference across the two groups. The second difference addresses any potential bias related to other variables, such as talent, reputation, and access to a wider network of corporate relations.

Data are hand collected for the 1988–2007 period, resulting in 633 independent director deaths in a sample of 2,551 director-interlocked firms. In this sample, 1,084 are considered sudden deaths and 843 of those are categorized as deaths among the treatment group. Data are also hand collected for this period for CEO deaths, resulting in 189 deaths in a sample of 592 director-interlocked firms, of which 338 are considered sudden deaths and 323 of those are categorized as deaths among the treatment group. For each death event, the surviving independent directors are divided into the treatment group and control group and data are collected for board seats held by the surviving directors at other outside listed firms. The impact of attention shocks is considered over various time periods surrounding the event to gauge short- and long-term effects. The long-run effect on stock price is studied using a calendar-time portfolio return approach with the CAPM and a four-factor model.

Abstractor’s Viewpoint

When evaluating an investment for purchase, practitioners may want to determine the number of outside board positions held by each of the directors of the underlying firm (the interlocked firm) because, as this research shows, the busyness caused by a director holding multiple board positions can be destructive to shareholder value. Other factors to consider include the size of the board, the number of board meetings, and other workload inputs.

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