The Myth that Insulating Boards Serves Long-Term Value
April 24, 2013 Leave a comment
The Myth that Insulating Boards Serves Long-Term Value
Harvard Law School; National Bureau of Economic Research (NBER); European Corporate Governance Institute (ECGI)
April 1, 2013
Columbia Law Review, Fall 2013, Vol. 113, Forthcoming
Abstract:
This paper comprehensively analyzes – and debunks – the view that insulating corporate boards serves long-term value.
Advocates of board insulation claim that shareholder interventions, and the fear of such interventions, lead companies to take myopic actions that are costly in the long term – and that insulating boards from such pressure therefore serves the long-term interests of companies as well as of their shareholders. This claim is regularly invoked to support limits on the rights and involvement of shareholders and has had considerable influence. I show, however, that this claim has a shaky conceptual foundation and is not supported by the data.
In contrast to what insulation advocates commonly assume, short investment horizons and imperfect market pricing do not imply that board insulation will be value-increasing in the long term. I show that, even assuming such short horizons and imperfect pricing, shareholder activism, and the fear of shareholder intervention, will produce not only long-term costs but also some significant countervailing long-term benefits.
Furthermore, there is a good basis for concluding that, on balance, the negative long-term costs of board insulation exceeds its long-term benefits. To begin, the behavior of informed market participants reflects their beliefs that shareholder activism, and the arrangements facilitating it, are overall beneficial for the long-term interest of companies and their shareholders. Moreover, a review of the available empirical evidence provides no support for the claim that board insulation is overall beneficial in the long term; to the contrary, the body of evidence favors the view that shareholder engagement, and arrangements that facilitate it, serve the long-term interests of companies and their shareholders.
I conclude that, going forward, policy makers and institutional investors should reject arguments for board insulation in the name of long-term value.
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