Zombie Board: Board Tenure and Firm Performance

We show that board tenure exhibits an inverted U‐shaped relation with firm value and accounting performance. The quality of corporate decisions, such as M&A, financial reporting quality, and CEO compensation, also has a quadratic relation with board tenure. Our results are consistent with the interpretation that directors’ on‐the‐job learning improves firm value up to a threshold, at which point entrenchment dominates and firm performance suffers. To address endogeneity concerns, we use a sample of firms in which an outside director suffered a sudden death, and find that sudden deaths that move board tenure away from (toward) the empirically observed optimum level in the cross‐section are associated with negative (positive) announcement returns. The quality of corporate decisions also follows an inverted U‐shaped pattern in a sample of firms affected by the death of a director.     

Independent director incentives: Where do talented directors spend their limited time and energy?

We study reputation incentives in the director labor market and find that directors with multiple directorships distribute their effort unequally based on the directorship's relative prestige. When directors experience an exogenous increase in a directorship's relative ranking, their board attendance rate increases and subsequent firm performance improves. Also, directors are less willing to relinquish their relatively more prestigious directorships, even when firm performance declines. Finally, forced Chief Executive Officer departure sensitivity to poor performance rises when a larger fraction of independent directors view the board as relatively more prestigious. We conclude that director reputation is a powerful incentive for independent directors.     

Friends with money

When banks and firms are connected through interpersonal linkages - such as their respective management having attended college or previously worked together - interest rates are markedly reduced, comparable with single shifts in credit ratings. These rate concessions do not appear to reflect sweetheart deals. Subsequent firm performance, such as future credit ratings or stock returns, improves following a connected deal, suggesting that social networks lead to either better information flow or better monitoring.     

Split Ratings and Differences in Corporate Credit Rating Policy between Moody's and Standard & Poor's

This paper investigates split credit ratings awarded by Moody's and Standard & Poor's (S&P) to U.S. corporations. Bivariate probit model estimates, analyzing 5,238 firm‐year observations from dual‐rated S&P 500/400/600 index‐constituent corporations, indicate firm‐specific financial and governance characteristics predict split ratings. Large, profitable companies with enhanced interest coverage, a greater percentage of independent directors, and more institutional investment are less likely to receive splits. Moody's appears more conservative in its evaluations, assigning lower ratings to smaller, less profitable companies with low interest coverage. Moody's also associates external, independent constraints on managerial autonomy with a higher corporate credit standing relative to S&P.     

Performance and governance in microfinance institutions

We examine the relationship between firm performance and corporate governance in microfinance institutions (MFI) using a self-constructed global dataset on MFIs collected from third-party rating agencies. Using random effects panel data estimations, we study the effects of board and CEO characteristics, firm ownership type, customer-firm relationship, and competition and regulation on an MFI’s financial performance and outreach to poor clients. We find that financial performance improves with local rather than international directors, an internal board auditor, and a female CEO. The number of credit clients increase with CEO/chairman duality. Outreach is lower in the case of lending to individuals than in the case of group lending. We find no difference between non-profit organisations and shareholder firms in financial performance and outreach, and we find that bank regulation has no effect. The results underline the need for an industry specific approach to MFI governance.     

Firms' Off-Balance Sheet and Hybrid Debt Financing: Evidence from Their Book-Tax Reporting Differences

We match large U.S. corporations' tax returns during 1989–2001 to their financial statements to construct a firm‐level proxy of firms' use of off‐balance sheet and hybrid debt financing. We find that firms with less favorable prior‐period Standard & Poor's (S&P) bond ratings or higher leverage ratios in comparison to their industry report greater amounts of interest expense on their tax returns than to investors and creditors on their financial statements. These between‐firm results are consistent with credit‐constrained firms using more structured financing arrangements. Our within‐firm tests also suggest that firms use more structured financing arrangements when they enter into contractual loan agreements that provide incentives to manage debt ratings. Specifically, we find that after controlling for S&P bond rating and industry‐adjusted leverage, our sample firms report greater amounts of interest expenses for tax than for financial statement purposes when they enter into performance pricing contracts that use senior debt rating covenants to set interest rates. Furthermore, we find that the greatest book‐tax reporting changes occur when firms become closer to violating these debt rating covenants. These latter findings are consistent with firms' contractual debt covenants influencing their use of off‐balance sheet and hybrid debt financing.     

Default Risk Estimation,Bank Credit Risk,and Corporate Governance

This study explores the relationship between credit risks of banks and the corporate governance structures of these banks from the perspective of creditors. The cumulative default probabilities are estimated for a sample of US commercial and savings banks to measure their risk taking behavior. The results show that one year and five year cumulative default probabilities are time‐varying, with a significant jump observed in the year prior to the financial crisis of 2008–09. Generally speaking, corporate governance structures have a greater impact on US commercial banks than on savings institutions. We provide evidence that, after controlling for firm specific characteristics, commercial banks with larger boards and older CFOs are associated with significantly lower credit risk levels. Lower ownership by institutional investors and more independent boards also have lower credit risk levels, although these effects are somewhat less significant. For all the banks in our sample, large board size, older CFO, and less busy directors are associated with lower credit risk levels. When we restrict the sample to consider the joint effects of the governance variables, the results on board size and busy directors are maintained.     

Do corporate boards matter during the current financial crisis?

This study examines the impact of corporate boards on firm performance during the current financial crisis. Using buy-and-hold abnormal returns over the crisis to measure firm performance, we find that board independence, as traditionally defined, does not significantly affect firm performance. However, when we redefine independent directors as outside directors who are less connected with current CEOs, a measure we call strong independence, there is a positive and significant relationship between this measure and firm performance. Second, outside financial experts are important for firm performance. We find that the positive impact of outside financial experts on firm performance is more significant than that of strong independence. Overall, our results suggest that firm performance during a crisis is a function of firm-level differences in corporate boards.     

Why do firms appoint CEOs as outside directors?

Companies actively seek to appoint outside CEOs to their boards. Consistent with our matching theory of outside CEO board appointments, we show that such appointments have a certification benefit for the appointing firm. CEOs are more likely to join boards of large established firms that are geographically close, pursue similar financial and investment policies, and have comparable governance to their own firms. The first outside CEO director appointment has a higher stock-price reaction than the appointment of another outside director. Except for a decrease in operating performance following the appointment of an interlocked director, CEO directors do not affect the appointing firm's operating performance, decision-making, and CEO compensation.     

Acquirer-target social ties and merger outcomes

This article investigates the effect of social ties between acquirers and targets on merger performance. We find that the extent of cross-firm social connection between directors and senior executives at the acquiring and the target firms has a significantly negative effect on the abnormal returns to the acquirer and to the combined entity upon merger announcement. Moreover, acquirer-target social ties significantly increase the likelihood that the target firm?s chief executive officer (CEO) and a larger fraction of the target firm?s pre-acquisition board of directors remain on the board of the combined firm after the merger. In addition, we find that acquirer CEOs are more likely to receive bonuses and are more richly compensated for completing mergers with targets that are highly connected to the acquiring firms, that acquisitions are more likely to take place between two firms that are well connected to each other through social ties, and that such acquisitions are more likely to subsequently be divested for performance-related reasons. Taken together, our results suggest that social ties between the acquirer and the target lead to poorer decision making and lower value creation for shareholders overall.     

External Networking and Internal Firm Governance

We use panel data on S&P 1500 companies to identify external network connections between directors and CEOs. We find that firms with more powerful CEOs are more likely to appoint directors with ties to the CEO. Using changes in board composition due to director death and retirement for identification, we find that CEO‐director ties reduce firm value, particularly in the absence of other governance mechanisms to substitute for board oversight. Moreover, firms with more CEO‐director ties engage in more value‐destroying acquisitions. Overall, our results suggest that network ties with the CEO weaken the intensity of board monitoring.     

Politically connected boards,value or cost: evidence from a natural experiment in China

This study investigates the net effect of a politically connected board for a firm. Using a natural experiment in China – a regulatory change to forbid bureaucrats from sitting on the board of public firms – we address the causality of the net effect of a politically connected board by testing the market reaction of the shares of firm targeted by the regulatory change to the policy announcement. The stocks of firms with politically connected directors who are targeted by the regulatory change show on average a significantly positive abnormal return, which suggests that the agency cost effect of a politically connected director dominates the value effect. The result is robust to various model settings and to a matched sample using the propensity score methodology. Additionally, the announcement effect of the resignation of a politically connected director is significantly positive, and significantly higher than that of a non‐connected director. Overall, our results suggest that the agency cost effect of a politically connected director dominates the value effect.     

Board monitoring,director connections,and credit quality☆

Firms with poor board monitoring effectiveness receive lower credit ratings and larger credit spreads. I identify these effects by using director deaths as exogenous shocks to monitoring effectiveness. These effects are especially pronounced when firms are highly levered. Incremental decreases in monitoring effectiveness impact credit quality the most when a majority of the board members become co-opted by management and when firms are more likely to increase corporate risk.     

Financial fraud,director reputation,and shareholder wealth

We investigate the reputational impact of financial fraud for outside directors based on a sample of firms facing shareholder class action lawsuits. Following a financial fraud lawsuit, outside directors do not face abnormal turnover on the board of the sued firm but experience a significant decline in other board seats held. This decline in other directorships is greater for more severe allegations of fraud and when the outside director bears greater responsibility for monitoring fraud. Interlocked firms that share directors with the sued firm also exhibit valuation declines at the lawsuit filing. Fraud-affiliated directors are more likely to lose directorships at firms with stronger corporate governance and their departure is associated with valuation increases for these firms.     

Board risk committees: Insurer financial strength ratings and performance

We hypothesize and find that the existence of a board risk committee is positively related to A.M. Best’s Financial Strength Ratings, a measure widely used in the insurance industry to assess financial health. Using a sample of insurance firms from 2007 to 2013, we measure the impact of board risk committees on financial strength ratings and performance after controlling for various factors such as corporate governance characteristics. We find that firms with board risk committees report higher financial strength ratings, but only in the post-financial crisis period. Also, the formation of a board risk committee is positively associated with an increase in financial strength ratings from the year prior to committee formation to the year after committee formation. Further, we find that the presence of a board risk committee is not related to short-run firm performance benefits and that it takes five years for the presence of a board risk committee to be associated with future performance. Overall, our results provide evidence suggesting board risk committees are effective and beneficial from the standpoint of rating agencies and long-term financial performance.     

Going overboard? On busy directors and firm value

The literature disagrees on the link between so-called busy boards (where many independent directors hold multiple board seats) and firm performance. Some argue that busyness certifies a director’s ability and that such directors are value enhancing. Others argue that “over-boarded” directors are ineffective and detract from firm value. We find evidence that (1) the disparate results in prior work stem from differences in both sample composition and empirical design, (2) on balance the results suggest a negative association between board busyness and firm performance, and (3) the inclusion of firm fixed effects dramatically affects the conclusions drawn from, and the explanatory power of, multivariate analyses. We also explore alternative empirical definitions of what constitutes a busy director and find that commonly used proxies for busyness perform well relative to more complex alternatives.     

THE INFORMATIONAL ROLE OF BANK LOAN RATINGS

We analyze the relatively new phenomenon of credit ratings on syndicated loans, asking first whether they convey information to the capital markets. Our event studies show that initial loan ratings and upgrades are not informative, but downgrades are. The market anticipates downgrades to some extent, however. We also examine whether public information reflecting borrower default characteristics explains cross‐sectional variation in loan ratings and find that ratings are only partially predictable. Our evidence suggests that loan and bond ratings are not determined by the same model. Finally, we estimate a credit spread model incorporating bank loan ratings and other factors reflecting default risk, information asymmetry, and agency problems. We find that ratings are related to loan rates, given the effect of other influences on yields, suggesting that ratings provide information not reflected in financial information. Ratings may capture idiosyncratic information about recovery rates, as each of the agencies claims, or information about default prospects not available to the market.     

Managerial ability and bond rating changes

This study examines the relation between managerial ability and bond credit rating changes. We attempt to add to the credit rating agency literature by exploring the role managerial ability plays in the initial bond rating assignments and in rating changes. We predict firms with more‐able managers are more likely to have higher bond ratings and to be more able to have a positive influence on rating changes. We find a significant and positive relation between managerial ability and change in credit ratings, suggesting that more‐able managers can take effective actions to improve their credit ratings.     

Directors skill and financial reporting quality

Motivated by theoretical models in economics which show that there is matching between CEO skill and firm size, we introduce a new measure of director skill which is based on the aggregate size of firms on which the director serves as an independent director. We validate our measure by showing that it is positively associated with director experience, financial expertise, industry expertise and managerial experience. We then examine whether our average measure of skill across board members is positively associated with monitoring quality. Controlling for the endogenous relationships between board composition and financial reporting quality, we find a positive association between our board measure for skill and monitoring quality, and we show that directors have a causal impact on monitoring effort and outcomes. Furthermore, consistent with the enhanced monitoring provided by skilled directors, we document a positive association between the level of and changes in our measure and firm value.     

Subordinate board structures

The board of directors is a flat governance structure where each director has an equal vote in determining the collective actions taken by the group. Yet, some boards choose to delegate authority for specific tasks to numerous committees, while others choose to create relatively few subcommittees of the board. We investigate the determinants of subordinate board structures, exploring both their benefits and costs. Using a sample of the S&P 1500 we find that subordinate board structures are positively related to board size and the proportion of outside directors, even after controlling firm characteristics such as complexity and ownership structure. Further tests indicate that these board structures can offset the negative associations that board size and the proportion of outsiders can have with firm performance. Yet, in firms with relatively small or insider oriented boards, where co-ordination problems among directors or social loafing may be less pronounced, we find that subordinate board structures are negatively related to firm performance. Categorizing committees as either monitoring or advisory, we find that both types of committees appear related to firm performance. Taken as whole, these results are consistent with the idea that subordinate board structures can be a costly remedy to alleviate problems that arise with larger, more outsider dominated boards.