Understanding governance and corporate boards: is theory a problem?

Author:Van-Ness, Raymond K.

    The normative empirical research paradigm suggests that "good research" must be grounded in and built on extant theory. In other words, good research begins with good theory, and hypothesis testing follows from model building. We reexamine this tradition by investigating the incongruence in corporate governance literature. Multiple studies begin with presumably good theory but arrive at remarkably different conclusions. We ask "why" that is the case for this stream of research, and in our conclusions offer the possibility that other streams might suffer from a similarly narrow view.

    Corporate boards have long had the legal authority and shareholder encouragement to proactively oversee executive decision making. Boards with relevant knowledge, skills, and abilities have the potential for proffering unique tactical and strategic advantages to corporations (Beekes, Pope, and Young, 2004; Finkelstein and Hambrick, 1996). They can contribute to a firm's success through three primary roles: the resource role wherein they enhance access to critical external resources, the service role in which they provide important advice to executive management, and the control role in which they provide governance oversight and determine incentives for executive performance (Chatterjee and Harrison, 2005). It is in the third role that boards have been ardently criticized for poor performance. The popular press has not been hesitant to broadcast exhaustive details of unfettered corporate malfeasance suggesting board ineptitude. High profile executive compensation packages, special bonuses, stock options, golden parachutes, and other executive perks have added fuel to public outrage and motivated new government regulations (Grant and Grant, 2008). The current economic downturn, massive layoffs, firm restructuring, corporations teetering on the edge of bankruptcy, and government bailouts add intensity to the perception of executive abuses and the belief that corporate boards are little more than quiescent committees (Van Ness and Seifert, 2007).

    "The buck stops here," a well-worn cliche popularized by former U.S. president Harry S. Truman, is often used by corporate and political leaders including President Barack Obama. It is an indication that they are in charge and willing to accept full responsibility for the behaviors and performance of subordinates. "The buck stops here" is also an important theme for reminding corporate boards, as end gatekeepers with ultimate fiduciary responsibility for firm performance, they must not be quiescent committees. In 2002, the United States Congress delivered such a reminder to corporate boards with the passage of the Sarbanes-Oxley Act (SOX). SOX may be the most significant securities legislation affecting publicly-traded firms since the formation of the Securities and Exchange Commission in 1934 (Van Ness, Miesing, Seifert, and Kang, 2009) that, among other things, contains substantial civil and criminal penalties for boards that fail to exercise due diligence (Buccino and Shannon, 2003; Klein, 2003).

    The extreme public interest in governance oversight and the actions taken by the United States Government may provide an incentive for more scholarly investigations of the relationship between corporate boards and firm performance. Unfortunately, while the governance literature is already rich with important studies, broad consensus of how boards influence firm performance has remained elusive (Zajac and Westphal, 1996). Scholarly works attempting to link board characteristics, structures, configurations, and attributes to corporate performance have yielded weak or nonexistent findings within individual studies and broad incongruence among studies (Barnhart, Marr, and Rosenstein, 1994). The overriding objective of this project is to identify plausible explanations for this enigma.


    The corporate governance literature can be divided between normative studies that anchor to an overarching theoretical perspective and exploratory investigations that appear to take a theory neutral approach. Overarching theories create an environmental context for researchers as they organize, conduct, and interpret their investigations, while theory neutral studies do not presuppose an operational context. Theory anchored studies assist in rationalizing hypotheses but obviously, should not bias the study structure or influence the interpretation of results. Perhaps the reluctance to submit a null hypothesis partially explains the prevalent use of theory anchors as opposed to pursuing an investigation on a theory neutral platform.

    The literature reveals a very wide range of theories, but the three most frequently found in our sample were stewardship theory, agency theory, and resource dependency theory. Agency theory is by far the most common anchor for studies in the corporate governance literature (Daily, Dalton, and Cannella, 2003). Occasionally two theories were combined, such as stewardship-resource dependency or agency-resource dependency theory, but these were uncommon. We categorized articles by their ascribed overarching theories, independent variables, and dependent variables. The overarching theories were stewardship (ST), agency (AT), and resource dependency (RDT). A brief explanation of each follows.

    Stewardship theory (ST) has its roots in psychology and sociology. It was adapted as a theoretical framework for researchers to examine decision-making, actions, and performance of executives who are acting as faithful stewards for principals (Davis, Schoorman, and Donaldson, 1997; Deutsch, 2005; Donaldson and Davis, 1991). It infers that managers are trustworthy and competent administrators of corporate resources and are best situated to maximize the interests of shareholders since they are most familiar with the intricacies of corporate strengths, weaknesses, opportunities, and threats (Boyd, 1995).

    Agency theory (AT) suggests an inherent imperfection in the relationship between capital providers (principals) and fiduciaries (agents) of that capital. It is a long-held concept that argues when corporate ownership is separated from corporate management, behaviors, decisions, and actions by managers will deviate from those required to maximize shareholder value. In other words, it assumes an imminent divergence between the interests of corporate managers and those of shareholders (Aguilera, Filatotchev, Gospel, and Jackson, 2008; Bushman and Smith, 2001; Coles and Hesterly, 2000). This theory was formalized in the early 1970s by Harold Demsetz, Michael Jensen, William Meckling, and others. However, the germination of agency theory can be seen much earlier in the works of Berle and Means (1932). Agency theory continues to be the dominant theoretic-anchor for studies of corporate governance practices and firm performance (Aguilera, Filatotchev, Gospel, and Jackson, 2008).

    Resource dependency theory (RDT) emphasizes that resources required by organizations need to be acquired through a network of contacts and the efficiency and effectiveness in bridging network gaps will determine the quality of corporate performance. Resource dependency theory describes organizational success as the ability to maximize power by accessing scarce and essential resources (Pfeffer, 1972; Ulrich and Barney, 1984). Corporate boards can assist organizations in gaining access to important resources that might otherwise be beyond their reach (Brown, 2005; Dalton, Daily, Johnson, and Ellstrand, 1999; Pfeffer, 1972; Pfeffer and Salancik, 1978). Boards are considered important boundary-spanners that secure necessary resources, such as knowledge, capital, and venture partnering arrangements (Ruigork, Peck, and Tacheva, 2007). Diversity of corporate board members has been found to be an important element in this theory since it can lead to broader corporate networks (Siciliano, 1996) and improve financial performance (Waddock and Graves, 1997).

    2.1 Board of Directors and Firm Performance

    The corporate governance literature is rich with both empirical and conceptual contributions. In this section we present a large variety of articles investigating various aspects of the influence of board attributes/configurations on firm performance. The three most common independent variables in our sample were CEO/COB duality, board independence, and board diversity, and the three most common dependent variables were accounting measures, market measures, and Tobin's q. We next summarize the characteristics of the board of directors since these are presumed to affect firm performance in various ways.

    2.1.1 CEO/COB Duality Literature

    Duality refers to a situation in which a corporate chief executive officer (CEO) also occupies the position of board chair (COB). Despite substantial and persistent criticism by institutional investors and other large bloc investors since the early 1980s (Westphal and Khanna, 2003), the majority of companies in the United States practice duality (Finkelstein and Mooney, 2003). The probability of the corporate CEO also occupying the position of COB increases with CEO tenure (Coles, McWilliams, and Sen, 2001). The perception of how duality influences a firm's performance varies by the theoretic certitude of the researcher, with stewardship theorists generally being proponents of duality while agency theorists are opponents. Our sample suggests that CEO/COB duality is not an area of prime concern for resource dependency theorists.

    Stewardship-oriented researchers have made the following discoveries. Donaldson and Davis (1991) found that duality enhanced shareholder wealth and improved a series of financial ratios, while finding no support for agency theory. Brickley, Coles, and Jarrell (1997) found that there are significant costs associated with the process of separating the positions of chief executive officer and board chair, and clear benefits with the...

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