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Time is of the Essence!: Retired Independent Directors’ Contributions to Board Effectiveness

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Abstract

Institutional investors, policy makers, and researchers have advocated for greater director independence in hopes of improving corporate governance and discouraging unethical behaviors such as corporate frauds, accounting irregularities, and other organizational failures. However, increasing demands upon directors and sitting CEOs, as well as constraints on the number of boards on which they can serve, has resulted in a dramatic increase in the use of retired independent directors (“RIDs”). Compared to other directors with full-time job demands, we argue that RIDs (who lack full-time primary employment) have lesser time constraints and greater attentional capacities with which to discharge their responsibilities, thereby improving overall board “bandwidth.” Using S&P 1500 firms for the period of 2000–2012, we find that enhanced board bandwidth associated with an increased proportion of RIDs on the board relates to greater resource provisioning through reducing costs of capital, improved monitoring through reducing disclosure-related weaknesses, and better accounting and market performance. We thereby advance traditional board bandwidth research by contemplating the available time that independent directors would have by virtue of being retired (i.e., whether a director lacks a “day job”) and relating this to board effectiveness.

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Notes

  1. Untabulated results show that the percentage of RIDs continued to increase over time to about 35% in 2015.

  2. Based on \(r_{{{\text{PEG}}}} = \sqrt {\frac{{E_{0} \left( {{\text{eps}}_{2} } \right) - E_{0} \left( {{\text{eps}}_{1} } \right)}}{{P_{0} }}}\), Easton (2004) provides the following example for Microsoft, whose \(r_{{{\text{PEG}}}} = \sqrt {\frac{\$ 2.15 - \$ 1.90}{{\$ 75}}}\) = 5.7%. The average \(r_{{{\text{PEG}}}}\) of all the firms in his sample is 11.3%, comparable to our average of 11 percent. As noted by a reviewer, the Easton (2004) model is not without drawbacks. Research by Mohanram and Gode (2013) shows that analyst forecast errors can be attributed to the sluggish response of analysts to information in past stock returns.

  3. In other words, we capture the incremental cost of debt (i.e., the additional cost a firm pays resulting from its operating and financial risk factors), rather than the absolute cost of debt. We thank a reviewer for this important observation.

  4. Section 404 of SOX, effective on November 15, 2004, requires public companies to assess the effectiveness of the internal control structure and procedures in the annual report and requires the public accounting firms to attest to it.

  5. The view is illustrated by these quotes, raising a different set of ethical concerns:

    “The number of high-quality outsiders [outside directors] prepared to make this commitment in travel time, effort and legal responsibility is bound to be limited. As the chairman and chief executive of one of the largest US banks recently told me, his board will inevitably become more reliant on retired directors and academics to perform the non-executive role. This hardly seems a recipe for excellence in governance” (Plender, 2003).

    “‘We do not want [retired] professional directors. We want people who are active [currently employed]’” (Yip, 2002, p. 1).

  6. Institutional owners are informed investors, have monitoring expertise, and exhibit enhanced monitoring abilities when they hold large ownership stakes (Hartzell & Starks, 2003; Khan et al., 2005).

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Acknowledgements

We wish to thank Ruth Aguilera, Don Hambrick, Amy Hillman, Karen Schnatterly, Donald Siegel, and Laszlo Tihanyi for their feedback on previous drafts. An earlier version was presented at the annual meetings of the Academy of Management.

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Authors and Affiliations

  1. Whitman School of Management, Syracuse University, 721 University Avenue, Syracuse, NY, 13244-2450, USA

    Pamela Brandes & Ravi Dharwadkar

  2. School of Management, SUNY at Binghamton, 4400 Vestal Parkway East, Binghamton, NY, 13902, USA

    Jonathan F. Ross

  3. Lindner College of Business, University of Cincinnati, 321 Carl H. Lindner Hall, 2925 Campus Green Drive, Cincinnati, OH, 45221-0211, USA

    Linna Shi

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Appendices

Appendix 1

See Table 7.

Table 7 Sample formation
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Appendix 2

See Table 8.

Table 8 Variable definitions
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Appendix 3

See Table 9.

Table 9 Summary of 2SLS regression results (IV = Industry-average proportion of RIDs)*
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Appendix 4

See Table 10.

Table 10 Summary of regression results when using number instead of proportion of directors as independent variables
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Appendix 5

See Table 11.

Table 11 Summary of regression results when splitting retired directors according to their age
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Appendix 6

See Table 12.

Table 12 Large institutional ownership as a predictor of the proportion of rids and non-rids
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Brandes, P., Dharwadkar, R., Ross, J.F. et al. Time is of the Essence!: Retired Independent Directors’ Contributions to Board Effectiveness. J Bus Ethics 179, 767–793 (2022). https://doi.org/10.1007/s10551-021-04852-x

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