00:00:05
the research focuses on the board of
00:00:06
directors as being a a Cornerstone a
00:00:09
focal point of of good corporate
00:00:11
governance and when I say that I mean
00:00:13
that that the shareholders of a of a
00:00:15
corporation are going to appoint a board
00:00:16
of directors that then gets involved in
00:00:19
the Strategic decision making and the
00:00:21
monitoring of management to make sure
00:00:23
managers are doing uh what shareholders
00:00:25
would like them to do um and many of
00:00:28
these uh these individuals on the board
00:00:30
of directors are independent directors
00:00:32
meaning they're independent of
00:00:33
management so they can act as sort of a
00:00:36
a watchdog or a monitor of managers but
00:00:39
the tricky part there is to make sure
00:00:41
those Outsiders um those independent
00:00:43
directors are well informed about what's
00:00:46
going on at the firm these are busy
00:00:47
individuals with typically high-profile
00:00:50
jobs they're only spending four five or
00:00:53
six days a year involved with the
00:00:55
company and so it's a critical issue as
00:00:58
to how you make sure they have the
00:00:59
inform information uh that they need to
00:01:01
to Monitor and advise managers and so in
00:01:04
this paper we focus on um how do firms
00:01:08
how does management how does the board
00:01:09
of directors uh take actions uh to
00:01:12
ensure and have a degree of comfort that
00:01:14
they're getting good information that
00:01:16
they can use to to to make good
00:01:23
decisions uh the key takeaways from our
00:01:25
this particular research project are to
00:01:27
realize the interconnection between
00:01:30
information and uh monitors and decision
00:01:33
makers that those two really need to go
00:01:35
together and that to have a certain type
00:01:38
of director in place uh that requires a
00:01:41
certain type of information uh
00:01:43
environment or certain uh level of
00:01:45
transparency uh so the big tension or
00:01:48
tradeoff when looking at a board of
00:01:49
directors is between independent and
00:01:52
inside directors inside directors are
00:01:55
affiliated with the firm they're more
00:01:57
involved on a day-to-day basis they have
00:01:58
a lot more background information uh so
00:02:01
they're not going to be as uh reliant on
00:02:03
external information sources uh as an
00:02:06
independent director uh is is only going
00:02:08
to be there uh five six days a year
00:02:11
typically uh so they need to information
00:02:14
source that can get them informed up to
00:02:16
speed quickly to facilitate uh their
00:02:18
decision- making making sure they're
00:02:19
asking the right questions uh things
00:02:21
like
00:02:25
that so the independent director is Al
00:02:28
also needs to think about uh their own
00:02:31
personal reputation and the risks that
00:02:33
they face so one of the the biggest
00:02:35
costs of being an independent director
00:02:37
is yes you have to put in some time but
00:02:39
you're concerned that if something goes
00:02:42
bad you're going to be blamed for it and
00:02:44
you could be litigated against you could
00:02:46
be sued uh and it could severely damage
00:02:49
your reputation so those independent
00:02:50
directors are only going to want to sit
00:02:53
on a board where they feel that they're
00:02:55
going to be getting good information so
00:02:57
they're appointed from the outside if
00:02:58
you if you thought about picking up a
00:03:00
set of financial statements and just
00:03:02
using the public information that's
00:03:04
available about a firm I don't think any
00:03:06
of us would feel like we could make
00:03:07
strategic decisions for that company
00:03:10
just by looking at their their SEC
00:03:12
filings you need a much deeper richer
00:03:15
set of information so those outside
00:03:17
directors come in and they have to get
00:03:19
themselves up to speed so they are
00:03:21
typically interviewed by management
00:03:23
they're interviewed by the existing
00:03:24
board of directors uh and then once they
00:03:26
sit on the board they have regular
00:03:28
meetings with managers managers present
00:03:30
budgets managers present ideas managers
00:03:32
present lots of things um and that
00:03:34
certainly is a very important sort of
00:03:37
Channel by which information would get
00:03:38
conveyed to the
00:03:40
directors but again in in Most states of
00:03:43
the world in most situations that might
00:03:44
be perfectly reasonable place for
00:03:46
directors to get information but where
00:03:48
they're concerned is and we've seen lots
00:03:50
of cases where managers get up to some
00:03:52
Financial Shenanigans or some Earnings
00:03:54
management or doing things that they
00:03:56
shouldn't be doing in those in those
00:03:57
very important settings in the the very
00:04:00
settings where you'd like to get the
00:04:01
best information managers are not going
00:04:04
to give you that information so your
00:04:06
channel for getting information about
00:04:08
things that the managers don't want you
00:04:10
to know pretty much get get shut down
00:04:12
and so the Board needs to then figure
00:04:14
out well how do I ensure that the the
00:04:17
the tires have been kicked properly if
00:04:20
you will and so there's lots of people
00:04:21
that are looking at the firm analysts
00:04:23
are looking at the firm Auditors are
00:04:24
looking at the firm Regulators are
00:04:26
looking at the firm creditors are
00:04:28
looking at the firm Supply ERS uh
00:04:30
employees there's lots of different part
00:04:33
institutional shareholders it might be
00:04:35
some hedge funds or private Equity that
00:04:37
has a a large share of block holders
00:04:39
that have investment so all of those
00:04:41
individuals and institutions are kicking
00:04:44
the tires if you will and so the board
00:04:46
wants to make sure that you have enough
00:04:48
of those other people out there kicking
00:04:50
the tires that they can potentially Fair
00:04:53
it out things or figure out things um
00:04:56
that the board members just either don't
00:04:58
have the time or the information or
00:05:00
simply can't can't do themselves and so
00:05:02
it's a very complicated information
00:05:04
environment but uh the key issu is to
00:05:07
remember that the the most the you know
00:05:09
the things you care most most about as a
00:05:11
director if you're trying to do some
00:05:12
monitoring is making sure you get
00:05:14
information when managers are least
00:05:15
likely to want to give it to
00:05:20
you I think what surprised the maybe I
00:05:23
know sort of surprised us but but you
00:05:25
know one of the the interesting facts
00:05:27
that that we observe in the paper is
00:05:30
that uh the relation between information
00:05:34
and the structure of boards goes goes in
00:05:36
both directions and specifically what I
00:05:38
mean by that is that uh trying to force
00:05:41
Upon A firm more independent outside
00:05:44
directors when that firm uh is is po
00:05:49
informationally opaque or if that firm
00:05:52
has difficulty communicating information
00:05:54
to outside directors trying to force
00:05:56
outside directors into that firm may not
00:05:59
work those directors simply may not be
00:06:01
able to get the information they need to
00:06:03
do a good job at the same time we also
00:06:05
find that there is some element of when
00:06:08
you do Force independent directors onto
00:06:11
a board they do try to take actions to
00:06:14
get better information and so it's this
00:06:16
very complex and dynamic information
00:06:18
structure where uh the directors have
00:06:21
some ability to to force the firm to
00:06:23
become more transparent but at the same
00:06:25
time going too far and trying to have
00:06:28
too many of the directors independent uh
00:06:31
can sometimes uh cause informational
00:06:33
problems where those directors simply
00:06:35
aren't able to get all the information
00:06:37
they need to give you a little bit of
00:06:39
background uh about the the
00:06:41
study um without getting too technical
00:06:45
we we use a uh certain regulation that
00:06:48
the uh stock exchanges the listing
00:06:51
exchanges uh put in place it required
00:06:53
companies to have a certain uh
00:06:56
proportion of independent directors um
00:06:59
um so before getting into the analysis
00:07:02
the question we asked ourselves is why
00:07:04
did the companies have uh the board
00:07:07
structure that they did to begin with so
00:07:09
where where are they moving from and uh
00:07:12
I think that helps uh helps understand
00:07:16
our our Point thinking about it from
00:07:17
that
00:07:22
perspective so the the basic idea behind
00:07:24
the paper the methodology was to um
00:07:28
observe a there a regulation that was
00:07:30
passed in the early 2000s um some of was
00:07:34
related to the the exchanges the major
00:07:37
stock exchanges and they required uh a
00:07:39
majority of the board of directors to be
00:07:42
comprised of independent directors um
00:07:45
before that there were lots of boards
00:07:47
that were dominated by inside directors
00:07:50
and and this new regulation forced uh a
00:07:53
majority to be Outsider independent
00:07:55
directors and so when that happened uh
00:07:57
firms had to shift their board
00:07:59
structures dramatically so it's this
00:08:01
exogenous shock this regulation that
00:08:03
forced these firms to add more
00:08:05
independent directors and then we
00:08:07
observe well how do firms react to that
00:08:09
um do they struggle to get the
00:08:11
information in the hands of those new
00:08:13
independent directors so if if prior to
00:08:15
the regulation you had say eight inside
00:08:18
directors and two independent directors
00:08:20
and after that you had seven outside
00:08:22
directors or independent directors and
00:08:24
only three or four inside directors
00:08:25
somehow you have to get those outside
00:08:27
directors up to speed uh on information
00:08:30
so we look at um do firms change the
00:08:33
financial reporting quality do firms uh
00:08:36
use the auditing process in a different
00:08:38
way do firms uh uh disclose more public
00:08:41
information in the form of management
00:08:42
forecasts or analyst forecasts so you
00:08:45
know does does the firm take actions uh
00:08:48
that would potentially get better
00:08:50
information in the hands of directors
00:08:51
Beyond just the internal information
00:08:54
that the directors will get from
00:08:55
managers so simply asking managers to
00:08:58
give us good information is often not
00:09:00
good enough or not a credible
00:09:01
information Source right so the
00:09:03
regulation provided the immediate
00:09:05
consequence was these companies that
00:09:08
didn't have a majority of independent
00:09:09
directors had to get a majority and our
00:09:12
papers focus on well what's the what's
00:09:14
the second level of consequences once
00:09:16
those independent directors are there
00:09:18
perhaps even before uh while they're
00:09:20
trying to uh attract and and get these
00:09:23
independent directors how do they make
00:09:25
changes to the information environment
00:09:26
to accommodate uh this new board
00:09:28
structure that's going to uh be in place
00:09:31
after the
00:09:32
regulations so the regulation is sort of
00:09:34
like the first Domino that fell and then
00:09:36
we're looking at uh subsequent
00:09:42
consequences one of the common
00:09:44
misperceptions in general with corporate
00:09:46
governance is that there there are
00:09:48
certain best practices that firms can
00:09:50
use and I think the whole the notion of
00:09:52
a a single best practice in corporate
00:09:54
governance is is a is is a misnomer I
00:09:57
don't think it really describes the way
00:09:59
corporate governance works so what might
00:10:01
be a good practice for one firm could be
00:10:03
a disaster for another firm or very
00:10:05
costly for another firm so uh and so we
00:10:08
focus on Boards of directors and we make
00:10:10
the point that that simply forcing a
00:10:12
firm to have lots of outside directors
00:10:15
is not necessarily a good thing if those
00:10:17
outside directors are going to be making
00:10:19
decisions in the dark so unless those
00:10:21
outside directors are informed they're
00:10:23
not going to be able to do a good job
00:10:25
and you can to take that same idea and
00:10:29
you can impose that on on virtually
00:10:31
every other simple governance structure
00:10:33
so another one that people often talk
00:10:35
about are uh the CEO should not Al also
00:10:38
be the chairman of the board that there
00:10:39
should be a an independent chairman of
00:10:41
the board the CEO and those two roles
00:10:43
should be separate uh and there's
00:10:46
extensive literature that shows that
00:10:48
sometimes having the CEO be the chairman
00:10:50
of the board is good and sometimes
00:10:51
having the CEO be the chairman of the
00:10:54
board is bad and you can go right down
00:10:56
the list with you know staggered boards
00:10:58
with executive compensation with with
00:11:01
stock options and stock ownership and
00:11:02
just about every component of governance
00:11:04
and it's important to keep in mind that
00:11:06
there simply is not one single best
00:11:09
practice but it needs to be conditional
00:11:11
on the firm's setting and that's the way
00:11:13
people should think about it even beyond
00:11:16
that just stopping to ask well why did
00:11:19
why why are there differences in the
00:11:20
first place before we start trying to
00:11:22
push everyone to the the same direction
00:11:24
and thinking about what gave rise to why
00:11:27
do some companies already have a
00:11:28
majority independent directors While
00:11:29
others don't well it could be the ones
00:11:31
that don't are engaged in a lot of
00:11:33
research and development a lot of uh
00:11:34
proprietary information that would be
00:11:36
difficult to credibly communicate to
00:11:38
Independent directors or maybe they
00:11:40
don't want to for proprietary reasons
00:11:42
and it makes sense for that company to
00:11:44
have a majority of uh of uh
00:11:47
non-independent
00:11:53
directors uh well one practical
00:11:54
implication is where do the uh
00:11:57
independent directors get the
00:11:58
information inform that they're using
00:12:00
and uh we use a variety of different
00:12:02
measures that are relatively common in
00:12:04
the corporate finance uh literature uh
00:12:07
we look at analyst forecast we look at
00:12:09
management forecast and management is
00:12:10
often uh an information Source in terms
00:12:14
of the uh frequency with which they
00:12:16
issue forecast or the Precision uh we
00:12:19
look at uh evidence from from uh stock
00:12:22
market trades we also look at uh some
00:12:24
accounting measures uh there in terms of
00:12:26
audited Financial reports so those are
00:12:28
all uh different pieces that go into the
00:12:30
information mix that uh directors and
00:12:33
especially uh independent directors draw
00:12:35
on for uh when they're making their
00:12:37
decisions and what that means from from
00:12:40
the corporation's perspective is that if
00:12:42
the corporation is trying to put in some
00:12:44
changes with respect to governance so if
00:12:46
they're thinking about changing their
00:12:47
board structure they're thinking about
00:12:49
adding new directors to the board they
00:12:51
need to be cognizant of these
00:12:53
informational issues so they need to
00:12:54
give some thought as to how are we going
00:12:56
to make sure that those busy people that
00:12:58
are only that have have a limited amount
00:12:59
of time to spend with us are making good
00:13:02
decisions and it's in the firm's best
00:13:03
it's in Management's best interest to
00:13:05
make sure that the board is informed
00:13:07
because otherwise they're imposing their
00:13:09
voting and imposing their power over
00:13:11
management uh without the information to
00:13:14
sort of move the firm in the right
00:13:15
direction so it's sort of uh the
00:13:17
research I think says something about
00:13:20
what what firms should be thinking about
00:13:21
when they're making these changes to
00:13:23
corporate governance and I think it also
00:13:25
could potentially guide Regulators so to
00:13:28
the extent that Regulators are going to
00:13:29
make changes and they've been making a
00:13:31
lot of changes to corporate governance
00:13:32
over the last 10 or 15 years in the last
00:13:35
10 or 15 years The Regulators have
00:13:37
decided that uh the majority of every
00:13:39
Board of Public board of directors will
00:13:41
be comprised of a majority of
00:13:43
independent directors the audit
00:13:45
committee needs to be 100% independent
00:13:47
directors the compensation committee
00:13:49
needs to be 100% independent directors
00:13:51
the nominating committee for nominating
00:13:54
board members needs to be made uh
00:13:56
comprised of 100% independent directors
00:13:58
so The Regulators have been over the
00:14:01
last 10 or 15 years imposing more and
00:14:03
more cost risk time uh on these
00:14:07
independent directors and so more and
00:14:10
more of the decision making in public
00:14:12
corporations is is in the hands of
00:14:14
independent directors and that's only
00:14:15
going to work uh if those independent
00:14:17
directors have the information that they
00:14:19
need so The Regulators need to be
00:14:21
cognizant of that as well uh when
00:14:23
they're when they're imposing govern
00:14:25
governance standards another regulatory
00:14:28
uh aspect that we uh I would say take as
00:14:31
a given in our paper is there there have
00:14:33
also been uh regulatory changes over the
00:14:35
last 15 years uh with respect to uh
00:14:38
what's disclosed about governance and
00:14:39
what I have in mind is in particular is
00:14:42
the compensation disclosures have gotten
00:14:44
a lot
00:14:46
uh a lot more uh a lot better and a lot
00:14:49
more transparent over the last 15 years
00:14:51
so now we can uh we as researchers and
00:14:54
presumably shareholders analysts
00:14:56
Regulators have a lot more information
00:14:59
about what the compensation package of
00:15:00
the CEO and the top Executives looks
00:15:02
like for example uh so there um to the
00:15:07
extent that these other uh these other
00:15:09
uh economic actors are also doing some
00:15:11
of the monitoring that information uh is
00:15:15
potentially facilitating uh their
00:15:16
decision making and their their
00:15:22
monitoring one thing we were talking
00:15:24
about uh ahead of time uh in terms of a
00:15:28
topic that's in the news is uh
00:15:30
shareholder voting has uh gotten a lot
00:15:32
of attention in the business press
00:15:33
lately uh one uh specific examples SE un
00:15:38
pay voting uh so where the companies
00:15:41
have to put the CEOs uh compensation
00:15:44
package to a shareholder vote once every
00:15:46
three years um in the US it's a
00:15:48
non-binding vote uh but it is a way for
00:15:51
shareholders to to express their
00:15:53
sentiment about the compensation package
00:15:56
um but that's symptomatic of what what
00:15:58
seems to be a push towards more
00:16:01
uh more shareholder empowerment uh in
00:16:04
terms of governance giving shareholders
00:16:06
more voting and in light of our research
00:16:08
that raises a question well uh just like
00:16:12
independent directors we need to think
00:16:13
about where are they getting their
00:16:14
information when you're talking about
00:16:16
dispersed shareholders who have uh
00:16:19
potentially smaller Stakes uh less of an
00:16:22
incentive to monitor uh where are they
00:16:25
getting their information how are they
00:16:26
going to be processing it so that's
00:16:28
something that needs to be kept in mind
00:16:30
if you're going to if Regulators for
00:16:32
example are going to push for uh uh more
00:16:36
shareholder
00:16:40
empowerment the reason the paper made a
00:16:42
contribution to the academic literature
00:16:45
in this area um was it built on prior
00:16:49
literature that essentially argued that
00:16:53
um that the information environment that
00:16:55
the firm was was wrapped up in was was
00:16:58
essentially fixed or exogenous to the
00:17:00
firm and and the prior literature argued
00:17:03
that there was really very little that
00:17:05
the firm or the board could do to alter
00:17:07
the the amount of
00:17:09
transparency uh that that might be uh
00:17:11
there with with the firm between the
00:17:13
board and the firm um and so what that
00:17:16
literature argued is that uh in firms
00:17:18
that aren't very transparent they simply
00:17:20
can't have a lot of independent
00:17:22
directors and in firms that are fairly
00:17:23
transparent they can now that literature
00:17:27
is primarily in in an um now coming at
00:17:30
it from an accounting perspective
00:17:31
there's a lot of accounting literature
00:17:33
that focuses uh very closely on how
00:17:36
firms can make financial reporting
00:17:38
decisions and and alter the auditing
00:17:40
process to make the firm more
00:17:42
transparent when it when it's not and so
00:17:45
our research took the perspective of
00:17:48
well we think that uh it is possible for
00:17:50
the board of directors to step in and
00:17:52
actually make some changes for
00:17:53
management to make some changes that
00:17:56
could actually facilitate more indep
00:17:58
dependent directors and so I think I
00:18:00
made the point earlier that kind of goes
00:18:02
in both directions the the information
00:18:04
environment dictates the the the proper
00:18:07
governance structure that be put in
00:18:09
place in terms of board Independence but
00:18:11
board Independence likewise can
00:18:12
influence the information environment
00:18:14
and so the two things uh tend to work
00:18:16
together move
00:18:21
together we're working on a a survey
00:18:24
paper talking about governance uh in
00:18:27
particular in the context of
00:18:28
uh financial institutions and Banks and
00:18:30
we're trying to apply some of what we
00:18:32
learned from this paper and and other
00:18:34
papers in the literature uh in the
00:18:35
context of of Banks and financial
00:18:37
institutions in particular um that
00:18:40
raises some interesting issues such as
00:18:42
financial institutions uh have an
00:18:44
inherent level of of complication
00:18:47
complexity uh that that most other
00:18:50
organizations don't have so uh from an
00:18:52
accounting perspective their financial
00:18:54
statements tend to be longer a lot more
00:18:56
is disclosed in the footnotes so there's
00:18:58
a lot more information uh the
00:19:00
information processing demands are uh uh
00:19:03
presumably much higher in that setting
00:19:05
so uh that raises the question well how
00:19:07
do independent directors uh acquire
00:19:10
process this information in inherently
00:19:13
complex uh potentially opaque
00:19:16
institution uh in the financial
00:19:18
institutions uh setting there's also the
00:19:21
Regulators uh who play a very important
00:19:23
role and to some extent can substitute
00:19:25
for uh some of these other governance
00:19:27
mechanisms so it's another another set
00:19:29
of eyes on management and uh they have
00:19:32
informational demands as well and
00:19:34
thinking about how those are going to
00:19:35
get resolved becomes very important and
00:19:38
just putting in a little bit more
00:19:39
context and in the wake of the financial
00:19:42
crisis certainly one of the the issues
00:19:45
of the concerns were that managers were
00:19:48
up to certain things taking certain
00:19:49
risks that shareholders and the board
00:19:52
was not was not aware of and so there
00:19:54
was a concern that that the information
00:19:57
of transparency wasn't n there between
00:19:59
what managers were up to and what the
00:20:00
board and what shareholders knew and so
00:20:03
the the bank Regulators have sort of
00:20:05
tried to to move forward on that and see
00:20:08
what they can do about it so this work
00:20:09
Chris was talking about uh We've brought
00:20:11
in a co-author that's uh that that works
00:20:14
with the Federal Reserve Bank of New
00:20:15
York um and so this paper will be
00:20:18
published with with him as a co-author
00:20:20
and there we do focus on specific issues
00:20:23
that Banks face uh that are unique to
00:20:25
Banks and and trying to move forward on
00:20:28
on increasing transparency between the
00:20:30
board of directors and shareholders and
00:20:32
potentially even regulators and and
00:20:41
[Music]
00:20:56
managers
