The board of directors is an important organizational institution, whose purpose is to reduce the agency problem inherited by the management of a firm. However, because of various accounting frauds and failures in corporate governance in the
history of larger corporations, there is increasing public attention regarding the effectiveness of a board and how a perfect board should be designed to increase their oversight quality. Because of these many researchers investigated this topic.
This paper reviews recent academic research regarding the characteristics of a perfect board of directors. Firstly, the paper analyses different board characteristics, then it investigates the importance of the composition and size of the audit committee.
Table of Contents
- Abstract
- Introduction
- Board Size
- Composition of the board: Outsiders vs. Insiders
- Composition of the board: Busy boards and performance of the firm
- Audit committee
- Independence
- Size
- Experts
- Conclusion
- References
Objectives and Key Themes
This paper reviews recent academic research on the characteristics of an effective board of directors. It aims to synthesize findings on optimal board size, composition (insider vs. outsider directors, busy directors), and the crucial role of the audit committee in ensuring corporate governance and financial reporting quality.
- Optimal Board Size and Composition
- The Impact of Outsider vs. Insider Directors
- The Effects of Busy Directors on Firm Performance
- The Importance of Audit Committee Independence
- The Role of Expertise within the Audit Committee
Chapter Summaries
Board Size: This chapter examines the relationship between board size and firm performance. Research suggests a smaller board size generally leads to superior performance due to reduced coordination problems and free-riding among directors. However, the optimal size is contingent on firm complexity; complex firms may benefit from larger boards with more outside directors to meet increased advising demands. Smaller firms, conversely, benefit from smaller boards to minimize agency problems. This demonstrates that a one-size-fits-all approach to board size is not effective.
Composition of the board: Outsiders vs. Insiders: This section delves into the debate surrounding the ideal ratio of insider to outsider directors. Studies indicate that a higher proportion of independent outside directors generally results in better management monitoring and compensation decisions. Boards with a majority of outside directors are more likely to replace underperforming CEOs. However, the optimal balance is again context-dependent, with R&D-intensive firms potentially benefiting from a higher proportion of insiders due to the importance of firm-specific knowledge.
Composition of the board: Busy boards and performance of the firm: This chapter explores the consequences of directors serving on multiple boards. While directorships enhance reputation and expertise, serving on numerous boards can negatively impact firm performance. Busy directors are associated with increased accounting fraud probabilities, higher CEO compensation packages, and inadequate management oversight. Research shows that firms with busy outside directors exhibit significantly lower market-to-book ratios. This highlights the trade-off between director experience and effective corporate governance.
Audit committee: This section focuses on the crucial role of the audit committee. This committee is paramount for overseeing auditing processes and ensuring high-quality financial reporting. The chapter emphasizes the importance of committee independence, particularly the independence of members from the CEO. Research suggests that greater independence, especially when a majority of members are outside directors, leads to reduced abnormal accruals. The chapter also underscores the benefits of including financial experts on the audit committee to enhance monitoring capabilities and reduce fraud risk.
Keywords
Board of directors, corporate governance, firm performance, board size, board composition, outsider directors, insider directors, busy directors, audit committee, independence, financial expertise, agency problems, accounting fraud, CEO compensation, market-to-book ratio.
FAQ: A Comprehensive Review of Board Characteristics and Corporate Governance
What is the main topic of this research paper?
This paper reviews recent academic research on the characteristics of an effective board of directors. It synthesizes findings on optimal board size, composition (insider vs. outsider directors, busy directors), and the crucial role of the audit committee in ensuring corporate governance and financial reporting quality.
What are the key themes explored in the paper?
The key themes include optimal board size and composition, the impact of outsider versus insider directors, the effects of busy directors on firm performance, the importance of audit committee independence, and the role of expertise within the audit committee.
What is the optimal board size, according to the research?
The research suggests that a smaller board size generally leads to superior performance due to reduced coordination problems and free-riding. However, the optimal size is contingent on firm complexity; complex firms may benefit from larger boards with more outside directors. Smaller firms benefit from smaller boards to minimize agency problems.
What is the ideal composition of a board of directors (insider vs. outsider directors)?
Studies indicate that a higher proportion of independent outside directors generally results in better management monitoring and compensation decisions. Boards with a majority of outside directors are more likely to replace underperforming CEOs. However, the optimal balance is context-dependent; R&D-intensive firms may benefit from a higher proportion of insiders.
What is the impact of "busy" directors on firm performance?
Serving on numerous boards can negatively impact firm performance. Busy directors are associated with increased accounting fraud probabilities, higher CEO compensation packages, and inadequate management oversight. Firms with busy outside directors exhibit significantly lower market-to-book ratios.
What is the importance of the audit committee?
The audit committee plays a crucial role in overseeing auditing processes and ensuring high-quality financial reporting. The paper emphasizes the importance of committee independence (especially from the CEO) and including financial experts to enhance monitoring and reduce fraud risk.
What are the key findings regarding audit committee independence?
Research suggests that greater audit committee independence, especially when a majority of members are outside directors, leads to reduced abnormal accruals.
What are the key takeaways from this research?
There is no one-size-fits-all approach to board composition and size. The optimal structure depends on firm characteristics. Independent outside directors generally improve oversight, but the balance needs to consider firm-specific factors. Busy directors pose risks, and a strong, independent audit committee is crucial for effective corporate governance and financial reporting quality.
What are the keywords associated with this research?
Board of directors, corporate governance, firm performance, board size, board composition, outsider directors, insider directors, busy directors, audit committee, independence, financial expertise, agency problems, accounting fraud, CEO compensation, market-to-book ratio.
- Arbeit zitieren
- Felix Pütz (Autor:in), 2020, Which Characteristics Determine a Perfect Board of Directors? A Review of the Economic Literature, München, GRIN Verlag, https://www.grin.com/document/1119129
