Antonio Falato, Dalida Kadyrzhanova, and Ugur Lel
Distracted Directors: Does Board Busyness Hurt Shareholder Value?
Journal of Financial Economics | Volume 113, Issue 3 (Sep 2014), 404-426

Is independent director busyness detrimental to board monitoring quality? A large number of publicly traded firms in the United States have recently limited the number of multiple directorships held by their board members. For example, a recent survey shows that 74 percent of S&P 500 firms impose restrictions on the number of corporate directorships held by their independent directors, up from 27 percent in 2006, and Institutional Shareholder Services recommends restrictions on the number of multiple directorships. While several studies find that busy directors are associated with lower firm valuations and less effective monitoring others either do not, or provide mixed evidence. Using a quasi-natural experiment, we find that there is a negative valuation effect of “attention shocks” (exogenous increases in the demand for outside directors' time) and that several firm decisions for which board monitoring is material are also adversely impacted.

Our experiment

We hand-collected information on the deaths of directors and CEOs over the 1988 to 2007 period. We were able to find 633 independent director deaths, which resulted in a sample of 2,551 director-interlocked firms, 1,084 of which are due to sudden deaths. Our experiment constructs two groups of director-interlocked firms: a group of firms whose independent directors' committee workload increased—which is our “treatment group,” and a group of firms whose independent directors' workload did not increase—our “control group.” We offer direct evidence validating the notion that shocks originating from the death of either the CEO or a colleague on the board lead to an increase in board committee workload for directors in the treatment group, which takes away time and resources from their board activities at interlocked firms. We compare the change in director-interlocked firm value within the treatment and control groups before and after the death event dates (first-difference) and then take the difference across the two groups (second-difference).

Costly distractions?

Relative to the control group, firms in the treatment group experience a significant negative stock market reaction to director attention shocks. As reported in Table 1, for interlocked firms in the treatment group the market reaction is substantial when the death event is sudden. By contrast, in our control group of observations that are subject to the same sudden shocks but whose interlocked relation does not involve serving in the same committee, there is no statistically significant market reaction. The difference in the market reaction between the treatment and control groups is statistically significant and robust to a battery of tests that address potential outliers and sample composition issues.

The first row in Table 1 shows a negative and statistically significant decline in value for firms whose directors are interlocked through the same committee—i.e., those in our treatment group. Given the average market capitalization is $4.47 billion in this subsample, attention shocks result in a decline of $35.31 million. On the other hand, the market reaction is statistically indistinguishable from zero for firms where the interlocked relation does not involve serving in the same committee. The difference in market reaction between the treatment and control groups is statistically significant. Similarly, CARs within a (–15, +15) day window show a sharp decline for the treatment group of observations, whereas CARs appear to fluctuate around zero for firms whose directors do not share an interlocked relation through the same committee. When we focus on attention shocks that are the most unexpected in nature (i.e., due to sudden deaths of independent directors), the market reaction becomes even more severe.

1: Cumulative Abnormal Returns for Director-Interlocked Firms: Were interlocking and deceased directors on the same committee?
YES NO Difference
(treatment) (control)
All Deaths –0.794** 0.131 –0.925**
(0.286) (0.185) (0.335)
N 843 1,708
Sudden Deaths –1.554** 0.190 –1.744**
(0.554) (0.354) (0.645)
N 360 724
Firms values are lower when directors from interlocking firms on the same committee die, with stronger effects for sudden deaths. (Standard errors are in parentheses.)

When do distracted directors matter?

Table 2 reports results by various measures of the degree of constraints on directors' time within the treatment group. Smaller boards may have less slack in terms of directors' assignments into committees, and therefore may be affected more severely by an attention shock. When we split the sample based on the top versus bottom quartiles of board size (Small Boards), we find an average market reaction for firms with smaller boards, which is again statistically significant. More frequent meetings may be suggestive of greater workload to effectively get the tasks completed. In cases where the director is not already busy, the market reaction is muted.

2: Cumulative Abnormal Returns for Director-Interlocked Firms
Treatment group only, by quartile of X
Top Bottom Difference
X - 1/Board Size –1.515** 0.344 –1.859**
(0.554) (0.663) (0.858)
X - # Board Meetings –2.152** –0.370 –1.782**
(0.814) (0.411) (0.868)
X - % of Busy Drct –2.327** –0.163 –2.165**
(0.937) (0.448) (0.923)
X - # Outside Directorships –1.367** –0.139 –1.288**
(0.458) (0.466) (0.662)
X - Busyness Factor –2.157** 0.191 –2.348**
(0.761) (0.515) (0.903)
N 210 N 210
Firms' stock prices decline only when an already busy director receives an attention shock. (Standard errors are in parentheses.)

Conclusion

Our evidence indicates that independent directors' workload matters for investors. Our results also provide direct evidence supporting the too-busy-to-mind-the-business view of studies such as Fich and Shivdasani (JF 2006). As such, our evidence that additional demands on directors' time have adverse consequences for board monitoring quality and firm value suggests that multiple directorships can be detrimental to shareholder value especially when the independent director and the board are already busy. Thus, the recommendations of Institutional Shareholder Services to limit the number of seats directors can hold in publicly traded firms may benefit shareholders by making boards more resilient to adverse shocks that increase demands on directors' time.


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