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Research Shows Value of Directors Advice

While some fear that outside directors may become antagonistic, a new study concludes that directors friendly to the CEO can enhance business performance – as long as the CEO has a significant ownership stake. James D. Westphal of the University of Texas surveyed boards of 263 major U. S. companies and found that earnings and stock performance were positively affected by the amount of informal advice shared by board members with the CEO – and friendships among the parties significantly enhanced the amount of informal advice. Except when CEOs had small stakes in their companies, the informal advice process made greater contributions to profitability and increased shareholder value than formal board monitoring processes. “Apparently, the incentive effects of giving CEOs greater financial stakes in their companies have reduced the need for outside monitoring. That has opened the way for CEOs to use their social ties to directors as a key resource for decision-making,” Westphal concludes. While Westphal’s research, published in Academy of Management Journal, involved public companies, it basically suggests that the board process works best when it mirrors the practice of disciplined family businesses. When family members lead their businesses, they obviously hold significant ownership positions which motivates responsibility and a sort of internal accountability. While offering some oversight, outside directors aren’t truly “independent” in that they often serve at the pleasure of the CEO. However, carefully selected and cultivated directors can become sources of invaluable advice and feedback, not just at board meetings but through frequent informal contacts. The lesson is clear: chose directors whose experience and talent allows them to offer excellent advice, develop solid relationships with them, talk with them regularly, and listen.

 

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