boards of directors and firm performance: is there an expectations gap?

BOARDS OF DIRECTORS AND FIRM PERFORMANCE

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© 2006 The AuthorJournal compilation © 2006 Blackwell Publishing Ltd, 9600 Garsington Road,Oxford, OX4 2DQ, UK and 350 Main St, Malden, MA, 02148, USA

Volume 14 Number 6 November 2006

Blackwell Publishing IncMalden, USA

CORGCorporate Governance: An International Review0964-8410Blackwell Publishing Ltd. 2006November 2006146••••ORIGINAL ARTICLES


COPRORATE GOVERNANCE

*Address for correspondence:Quinn School of Business,University College Dublin,Belfield, Dublin 4, Ireland.Tel:

+

353-1-716 4707; Fax:

+

353-1-716 4767; E-mail: [email protected]

Boards of Directors and Firm Performance: is there an expectations gap?

Niamh Brennan*

Reflecting investor expectations, most prior corporate governance research attempts to find arelationship between boards of directors and firm performance. This paper critically examinesthe premise on which this research is based. An expectations gap approach is applied for thefirst time to implicit expectations which assume a relationship between firm performanceand company boards. An expectations gap has two elements: a reasonableness gap and aperformance gap. Seven aspects of boards are identified as leading to a reasonableness gap.Five aspects of boards are identified as leading to a performance gap. The paper concludes bysuggesting avenues for empirically testing some of the concepts discussed in this paper.

Keywords: Boards of directors, expectations gap, firm performance

Introduction

eflecting investor expectations, prior re-search attempts to relate firm perfor-

mance and corporate governance, with littleconvincing evidence found to date (Larcker

et al

., 2004). Although more recent work con-siderably expands the governance factorsexamined, it has only been able to findrelationships with a minority of those factors(Bebchuk

et al

., 2004; Brown and Caylor, 2004;Cremers and Nair, 2005; Gompers

et al

., 2003).There are mixed findings on the direction ofcausality between firm performance andcorporate governance (Chidambaran

et al

.,2006; Core

et al

., 2006; Lehn

et al

., 2005).These findings bring into question whetherit is reasonable to expect to find a relation-ship between firm performance and cor-porate governance, and prompts a criticalexamination of the premise on which thatresearch is based. As Merino

et al.

(1987, p.749) has observed “If posited relations donot isomorphically map to actual events, thena theory lacks ex ante descriptive power andthe results of empirical tests become lessmeaningful”.

R

This paper questions the assumption thatgood governance (as proxied by board ofdirector variables) will lead to enhancedshareholder value. It is suggested that there isan expectations gap between what stake-holders (e.g. investors, regulators, researchers,the media, the public) expect and whatboards of directors can reasonably contribute.This paper critiques this premise/assumption.It is posited that the lack of robust priorresearch findings is explained by this expecta-tions gap. However, it is acknowledged thatresearch design flaws also contribute to prob-lems of prior research attempting to relate firmperformance and corporate governance.

The paper continues by defining the term“expectations gap” and considers priorresearch on expectations gaps. The role ofboards of directors is then considered. Theconfusion as to the role of the board, and theconflicting role of boards, are highlighted asthese are likely to contribute to an expectationsgap. As the context for considering an ex-pectations gap is prior research, the issue/research question addressed in prior researchis then set out. Possible misunderstandings ofthe role of boards are considered, analysed

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CORPORATE GOVERNANCE

© 2006 The AuthorJournal compilation © Blackwell Publishing Ltd. 2006


from an expectations gap perspective. Thepaper concludes by making suggestions as tofuture research applying an expectations gapapproach.

Expectations gap

An expectations gap is the result of differencesin opinion or perceptions between two or moregroups (Deegan and Rankin, 1999). An expec-tations gap has two elements (Porter, 1993):

•

A reasonableness gap

: Gap between what isexpected and what can reasonably be ex-pected to accomplish.

•

A performance gap

: Gap between what canreasonably be expected and perceivedactual achievements.

The term “expectations gap” has been appliedin auditing research in relation to investorexpectations that audited accounts are accu-rate, compared with the reality that auditorsprovide an opinion that the audited accountsshow a true and fair view (but are not neces-sarily accurate).

There has been little research on expecta-tions gaps in relation to issues of corporategovernance. Ironically, Keasey and Wright(1993, p. 293) pointed to the expectations gapof auditors without extending it to boards/non-executive directors:

Third parties have a key role to play in ensuringthe accountability of directors and management,especially auditors and non-executive directors.This in turn raises the question of what theirroles are expected to be and the difficulties incarrying them out. The existence of a gapbetween what auditors are legally required to doand what they are expected to do by society ingeneral is one manifestation of the problem.

Reay (1994) and Hooghiemstra and vanManen (2004) were first to suggest the term“expectations gap” (until then applied toexternal auditors) could be applied to boardsof directors. Reay (1994) reports a survey ofexecutive and non-executive directors, in-stitutional investors, merchant bankers andbrokers and uses the term “expectations gap”in relation to the differences in perceptionsbetween executive and non-executive direc-tors. Hooghiemstra and van Manen (2004)addressed the expectations gap issue moreexplicitly and surveyed over 1000 Dutchnon-executive directors, employee represen-tatives and institutional investors. They founda large number of statistically significant dif-ferences in relation to non-executive directors’responsibilities between the views of non-executives on the one hand, and the views ofother stakeholder groups on the other hand.

Interestingly, expectations of different stake-holder groups on non-executive director per-formance varied considerably. Hooghiemstraand van Manen (2004) point to the inherentlimitations applying to non-executive direc-tors to explain these findings. Some of theseinherent limitations are discussed further onin this paper.

Langevoort (2003) extends the expectationsgap notion to companies and to securitiesregulation. He argues that company man-agements deliberately create expectationsamongst investors of company growth pros-pects, and managements’ skills to deliver thatgrowth. These deliberately created expecta-tions may contribute to an expectations gap.Langevoort goes on to suggest that securitiesregulators such as the Securities and ExchangeCommission in the US further contribute to anexpectations gap among investors by sugges-tion strong integrity and transparency incapital markets that in fact does not exist.He talks about “the creation of investmentillusions, which managers guilefully exploit”(Langevoort, 2003, p. 1140). He extends theexpectations gap notion to outside directors,and puts them into the same category asinvestors, in the sense that CEOs see the boardas a group whose expectations have to bemanaged just as investor expectations have tobe managed.

Two parties need to be identified in relationto expectations gaps. In relation to auditexpectation gaps, the parties are auditors onthe one hand, and financial statement users(Alleyne and Howard, 2005), audit interestgroups (Porter, 1993), jurors and students onthe other hand (Frank

et al

., 2001). McEnroeand Martens (2001) compare the perceptionsof audit partners and investors.

Reay (1994) considers gaps between execu-tive and non-executive expectations, whileHooghiemstra and van Manen (2004) examineexpectations gaps between non-executivedirectors and stakeholders such as employeerepresentatives and institutional investors.Langevoort (2003) identifies (i) management–investors expectations gaps, (ii) CEO–outsidedirectors expectations gaps and (iii) regula-tors–investors expectations gaps.

In the auditing literature, a number of dif-ferent methodological approaches have beentaken to research audit expectations gaps. Themost common are quantitative postal surveyinstruments (Porter, 1993; Humphrey

et al

.,1993; Reay, 1994; McEnroe and Martens, 2001;Dewing and Russell, 2002; Hooghiemstra andvan Manen, 2004). In-depth unstructured in-terviews (Alleyne and Howard, 2005) and ex-periments (Kinney and Nelson, 1996; Nelsonand Kinney, 1997) have also been used.


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Most research has just two groups ofrespondents; for example, auditors and inter-est groups (Porter, 1993); audit partners andinvestors (McEnroe and Martens, 2001); audi-tors and users (Alleyne and Howard, 2005).Porter (1993) divided her interest groups intotwo categories: (i) financial community groupfamiliar with the work of auditors and (ii)members of the general public. Teo andCobbin (2005) examine the gaps in expecta-tions between auditors and the judiciary.Kinney and Nelson’s (1996) nonauditors weregovernment audit office investigators. Nelsonand Kinney (1997) used MBA students asproxies for financial statements users (i.e.potential investors/shareholders). Humphrey

et al

. (1993) had five groups of users: auditors,financial directors, investment analysts, bank-ers and financial journalists.

In questionnaire-based research, the expec-tations gap is measured as the difference in themeans of different group responses. Someresearchers also examine the relative scale ofthe differences.

In conclusion, a problem in corporate gov-ernance that requires more consideration isthe expectations gaps that exist around boardsof directors. Narrowing any expectations gapbetween participants in capital markets isimportant to maintain confidence in theproper functioning of these markets.

The categorisation of expectations gapsinto reasonableness gaps and performancegaps described earlier is applied in thispaper in analysing the role of companyboards.

Corporate governance

Corporate structure has a major disadvan-tage arising from the separation of capitalproviders (shareholders) and capital users(management). Corporate governance mech-anisms have evolved that help reduce – butnever completely eliminate – the costs associ-ated with the separation of ownership andcontrol (Denis, 2001). The board of directorsis the official first line of defence againstmanagers who would act contrary to share-holders’ interests. Romano (1996) describesthe board of directors as the principle gover-nance structure for shareholders in diffuselyheld firms. Daily

et al

. (2003, p. 372) suggestthat “the board of directors is the most cen-tral internal governance mechanism”. News-papers and business commentary wouldtend to support this view in the coveragegiven to boards of directors as a governancemechanism, with other governance mecha-nisms not mentioned at all, or mentioned toa much lesser extent.

Role of company boards

The board of directors is charged with over-sight of management on behalf of share-holders. Agency theorists argue that in orderto protect the interests of shareholders, theboard of directors must assume an effectiveoversight function. It is assumed that boardperformance of its monitoring duties is influ-enced by the effectiveness of the board, whichin turn is influenced by factors such as boardcomposition and quality, size of boards, dual-ity of CEO/Chairman positions, board diver-sity, information asymmetries and boardculture.

The board of directors’ legal construct wasfirst introduced in company law in the 1844Joint Stock Companies Registration andRegulation Act (Donaldson and Davis, 1994;Tricker, 1984). It is likely that legislators then(and now) introduced this legal mechanismnot with the objective of creating/generating/enhancing shareholder value, but with theintention of protecting/safeguarding share-holder investments. Enhancing shareholdervalue and protecting/safeguarding share-holder assets are very different and often timesconflicting objectives. Ambiguities in lawaround the role of the board, and conflictsbetween differing roles of boards, are likely tocontribute to an expectations gap. These areasof confusion and conflict are discussed in theparagraphs to follow.

Although boards of directors are a legalmechanism, laws are generally silent on theirpurpose. Views on the role of the board aremixed, and differ across jurisdictions. Thisinconsistency may derive from differences inlaws and other regulations specifying boardroles. The role of the board is set out in avariety of regulatory sources, including:

• Statute.• Common law (precedents set out in case

law).• Self-regulatory codes of practice.

The corporate governance literature is not con-sistent on the role of company boards. Stilesand Taylor (2001, p. 10) observe that there is alack of consensus on what boards are actuallysupposed to do. The nature of the board’scontribution, and crucially the expectationsplaced on it, depend on which theoretical per-spective is adopted.

Table 1 summarises the various roles ofboards (19 in total) in the literature (Cravensand Wallace, 2001, p. 3; MacCormac, 1985;Stiles, 2001, p. 635). The 19 roles identified canbe categorised into three groups:

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1. Strategy: the process by which directorsshape the direction, future, vision, values ofan organisation.

2. Monitoring and control of managers(including hiring and firing of the CEO).

3. Acquisition of scarce resources/providingsupport to the CEO.

Duties and accountability of directors

Duties of directors are also relevant here.Courts apply two broad principles againstwhich to assess the conduct of directors:

•

Duty of care and skill

: This derives from theRoman term

mandatum

and requires di-rectors to act in a reasonable, prudent,rational way, as expected of a similar personin that position. Courts apply the “businessjudgement rule” (when conflicts of interestare absent), which provides directors withthe benefit of the doubt when things go

wrong. Failure to exercise such careamounts to negligence in common lawcountries.

•

Fiduciary duty

: This is a duty to act honestlyand in good faith (sometimes referred to asa duty of loyalty) and specifically addressessituations of conflict of interest. Insidersshould not profit at the expense of thecompany. Breach of fiduciary duty exposesa director to liabilities, and damages willarise where the interests of the companyhave been adversely affected.

Accountability of directors is not a straightfor-ward issue. In law (as outlined above), direc-tors are accountable for their individualactions, yet they operate and make decisionscollectively as a board (Pye, 2002). Individualsmay behave differently in a group. Thus, thereis a tension between the analysis of individualand collective board actions. Directors (likeother groups of people) may do things acting

Table 1: Effect of roles of board of directors on firm performance

Effect on firm performance

Positive Neutral Negative

1

Strategy roles

1. Framing objectives and vision of the business

✓

2. Formulating (with management) and reviewing company strategy

✓

3. Setting tone at the top/ethical culture of the organisation

✓

2

Monitoring and control roles

4. Ensuring corporate survival (protecting shareholders’ interests)

✓

5. Setting risk appetite of organisation

✓

6. Hiring, evaluating and firing of CEO

✓

rare7. Specifying lines of authority of management and board (reserved functions)

✓

8. Monitoring and evaluating management

✓

1

✓

1

9. Controlling operations

✓

1

✓

1

10. Reporting to, and communicating with, shareholders

✓

2

11. Recommending dividends

✓

3

12. Evaluating board performance, and planning board succession

✓

3

13. Ensuring compliance with statutory and other regulations

✓

14. Reviewing social responsibilities

✓

3

Service roles

15. Enhancing company reputation and prestige

✓

16. Participating in relationships with outside bodies

✓

17. Assisting organisation in obtaining scarce resources

✓

18. Acting as ambassador for the firm

✓

19. Providing support and wise counsel to CEO/senior management

✓

11 2 8

1

These roles are included twice, as they are likely to have both positive and negative effects on firm performance. Monitoring performanceand controlling operations will lead to better performance, but may also impose constraints on managers’ freedom to generateshareholder value.

2

Boards improve market performance by influencing the perceptions of potential investors (signalling theory perspective).

3

These two roles are assumed to have neither a positive nor negative effect on firm performance.


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together that they would never do alone(Myers, 1994). A board may be greater (or less)than the sum of its parts. Boards shape theirorganizations through all aspects of directors’communications, inside and outside the or-ganization, implicit and explicit (Pye, 2002).

To whom do directors owe their duty?

This is another area of confusion in the litera-ture. A range of possibilities exist from duty tothe company, to shareholders collectively, toshareholders only, and/or to shareholders andwider stakeholders.

Strictly speaking in UK law, directors owetheir duty to the company, not to the share-holders. However, in the US the duty tends tobe expressed as a duty to shareholders col-lectively (but this very much depends on in-dividual circumstances). In most cases, thisdifference has no consequences in practice.However, in extreme cases (Enron comes tomind here), where directors focus on share-holders/shareholder value (in modern mar-kets this is often an excessively short-termperspective), they may compromise the verysurvival of the company through misplacingtheir duty to shareholders instead of to thecompany (or to shareholders as a collectivegroup). Thus, duty to company implies alonger-term perspective and a requirementfor prudence in ensuring the survival of thecompany.

US perspective

As part of its corporate governance project,The American Law Institute (ALI) (1994)defines the objective and conduct of compa-nies as follows:

(a) . . . a corporation should have as its objectivethe conduct of business activities with a viewto enhancing corporate profit and shareholdergain.

(b) Even if corporate profit and shareholder gainare not thereby enhanced, the corporation, inthe conduct of its business:(1) Is obliged, to the same extent as a natural

person, to act within the boundaries set bylaw;

(2) May take into account ethical consider-ations that are reasonably regarded asappropriate to the responsible conduct ofbusiness

(3) May devote a reasonable amount ofresources to public welfare, humanitarian,educational and philanthropic purposes.(Section 2.01)

Thus, although shareholder primacy is thegeneral rule, subsection (b) allows for reason-

able ethical and charitable considerations tosupersede shareholder primacy. A companyshould conduct itself as a social as well aseconomic institution (Eisenberg, 1993). Con-versely, Williamson (1984) argues that share-holder value should be the sole criterion forfirm effectiveness. The inclusion of otherstakeholders’ objectives compromises effi-ciency and invites tradeoffs. Cox (1993) ex-presses the view that directors’ obligationsshould be more directly tied to shareholdersrather than to a more diffuse stakeholdergroup.

European perspective

Denis and McConnell (2003) observe that therole of the board in many European states isnot specified in law. Where the role is speci-fied, it is often couched in vague language, e.g.“manage, or supervise the management of . . .the business and affairs of a corporation”(LeBlanc, 2001, p. 6). Denis and McConnell(2003) note that in many European countriesshareholder value is not the only, or even theprimary, goal of the board of directors.

To summarise, the following areas of con-fusion and conflict are likely to contribute toan expectations gap:

• The role of boards is not explicitly set out inlaw.

• Regulation of boards comes from a varietyof different sources.

• There is a lack of consistency and consensuson the role of boards.

• The theoretical perspectives adoptedinfluence understandings of the role ofboards.

• Directors are accountable for their actionsas individuals, yet they operate and takedecisions as a group.

• There are variations by jurisdiction as towhom directors owe their duties.

• Boards of directors may have to make trade-offs between stakeholders in the exercise oftheir duties.

From the above brief discussion, the assump-tion that unfettered shareholder value is the100 per cent objective of boards and of indi-vidual directors is unrealistic, and is likely tolead to an expectations gap.

The research question

How do entrepreneurs, shareholders andmanagers minimise the loss of value thatresults from the separation of ownership andcontrol? This dilemma forms the basis of

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research into corporate governance. Muchprior research assumes that the purpose of theboard is shareholder maximisation. This per-spective is unlikely to reflect the expectationsof a wider group of shareholders and stake-holders in companies.

The question examined in prior research is:Does corporate governance effectiveness leadto superior corporate financial performance?Firm performance is hypothesised to be afunction of firm corporate governance mech-anisms. Corporate governance is usually meas-ured by reference to board effectiveness, andfirm performance is assumed to be a functionof some measure of board effectivenessproxied by some board characteristic assumedto be effective. Characteristics tested includethe size of the board, the number of independ-ent outside directors on the board, separationof the roles of chairman and chief executive,the number of women on the board, etc.

The issue at the heart of this paper iswhether all groups with interests in boards ofdirectors have the same expectations as thoseimplicit in the prior research discussed above.

Expectations gap in research on company boards

As stated in the introduction to this paper,there are two elements to expectations gaps:a reasonableness gap and a performancegap. These are discussed below in the con-text of boards of directors. This discussion isnot intended to exhaustively cover all theliterature about board process and directorcharacteristics. In this respect, the work ofFinkelstein and Mooney (2003), Forbes andMilliken (1999), Ingley and van der Walt(2005), Pye and Pettigrew (2005) and Sonnen-feld (2002, 2004) might be consulted.

Reasonableness gap and company boards

In relation to boards of directors, there is areasonableness expectations gap in relation towhat is expected of boards and what boardscan reasonably be expected to accomplish.Factors contributing to this reasonablenessgap include:

• Lack of agreement on role of boards.• Some roles may negatively impact on

company performance.• The board has a limited and restricted role

compared with that of managers.• Shareholder value is not the only aspect of

interest to directors.• Directors have a limited ability to monitor

and control.

Lack of clarity and conflicting role of boards

Understanding that the legal duty of boardsand of directors is to the company and not toshareholders is fundamental to understandinghow boards work.

If boards are effective their actions shouldbe consistent with maximising value to share-holders. This is the premise of research onrelating shareholder value and boards ofdirectors. Is it a reasonable premise? Table 1lists the various roles (19 in total) identified inthe literature for company boards. Directorscontribute to these roles to different extents.With such a multitude of roles, directors arelikely to see their job as broader than merelyincreasing shareholder value.

The various roles of boards are often inconflict. For example, monitoring managersrequires outside directors to be sceptical andsomewhat distrustful. Setting strategy re-quires collaboration and trust between manag-ers and outside directors. Blair and Stout(1999, p. 49) refer to the conflicting role ofboards from the perspective of the competinginterests of the various different stakeholdergroups: “mediating hierarchs charged withbalancing the sometimes competing interestsof a variety of groups that participate in publiccorporations”.

Monitoring and control by boards varieswith economic conditions. Mizruchi (1983)suggests that the exercise of control by boardsmay vary depending on the relative perfor-mance of the firm. Mizruchi (2004, p. 614, fn73) suggests that boards are passive whenthere is satisfactory performance and in boomtimes. However, the potential for boards toexercise power is always there, even though itmay remain dormant for years.

When the economy is strong and firms are per-forming well, the board has less need to monitormanagement, and managers may find it easierto take liberties in ways that they would nototherwise be able to do so . . . Once the boomended, it was no longer possible to hide suchbehaviour [Enron-type scandals], and managersagain became vulnerable, although as in theEnron case, boards did not always react in timeto save the firm.

Some roles may negatively or negligibly influence company performance

It is generally assumed that the role of boardsis to increase shareholder value and that aneffective board of directors will automaticallylead to improved company performance.However, Donaldson and Davis (1994) positthat adoption of non-executive dominatedboards might have negative effects on corpo-


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rate profit and shareholder returns. A carefulanalysis of the roles of boards points to certainroles having a negative rather than positiveeffect on performance.

Shareholders are in need of agents to over-see and control management’s self-servingbehaviour and to safeguard shareholders’assets and interests generally. According toHerman (1981), boards exercise control gener-ally by functioning as constraints on manage-ment. Thus, rather than contributing to firmperformance, this view has management driv-ing firm performance, with the board impos-ing limits to the way in which managers arefree to pursue shareholder value. Thus, therole of the board could be interpreted in thiscontext as stopping managers stealing (profitsor assets) from the shareholders. (Otherauthors also consider less direct personal ben-efits to managers including perks, shirking,entrenchment and empire building). The ten-dency of managers to steal may vary depend-ing on whether economic conditions are goodor bad (Johnson

et al

., 2000). Stealing (or not)will only have a significant influence on theoverall performance (profitability or value) ofa firm if the dollar amount stolen is significant.It becomes harder to steal as the absoluteamount stolen increases. If the amount stolenis significant, the manager runs the risk ofbeing caught and being punished. Even ifboards are successful in preventing managersstealing from shareholders, will this comethrough as significantly improved firm perfor-mance? Thus, even if the board exercises con-trol in this way, the effect on firm performanceis likely to be negligible.

A tension in corporate governance regula-tion is between the cost (time and money) ofsystems of accountability versus the need tofoster an enterprise culture to generate wealthfor the business. In discussing the purpose ofcorporate governance being to check manage-rial self-serving behaviour, Short

et al

. (1999)question whether the devices, mechanismsand structures to reduce self-serving be-haviour hamper performance and, whileimproving accountability, actually reduce effi-ciency. It is possible that good governance,which provides control, might hamper perfor-mance and enterprise rather than contributingto enhanced shareholder value. Baysinger andHoskisson (1990) argue that outside directorspotentially have a negative effect on corporateentrepreneurship.

Table 1 summarises the various roles ofcompany boards identified in the literature,and crudely classifies them according towhether they are likely to have a positive, neu-tral or negative effect on firm performance. Ofthe 19 roles identified, only 11 are expected to

have a positive effect on performance. In thecase of two roles, it is not clear whether therole has a positive or negative effect, so theseroles are classified as having a neutral effecton performance. Eight roles are more likely tohave a negative effect on firm performance.

The reason these eight roles are likely tohave a negative effect on performance isbecause (in various different ways) they actto curb management’s freedom to generateshareholder value. For example, because theboard has imposed a strong culture of com-pliance in the organisation, management isrequired to observe all legal requirements.This could lead to a loss of shareholder value.For example, a good board will not permitmanagement to bribe officials in a foreigncountry, where such behaviour is the norm. Asa result, competitor companies that do nothave such a strong compliance culture arelikely to be more successful in obtaining lucra-tive foreign contracts as their managementsare permitted by poor governance standardsto bribe local officials.

Role of management versus role of boards

Much of this discussion implies that directorsare there first and foremost to protect share-holders’ interests. The role of adding value byensuring outstanding performance of thebusiness is more under the control of day-to-day managers than of the board.

Earlier in this paper three primary roles/groups of roles were identified for companyboards: strategy, monitoring and acquisitionof scarce resources/providing support to theCEO.

Can these three roles be related to companyperformance? Of these three roles, the first(strategy) is most likely to lead to better firmperformance. However, the extent to whichthe board (as opposed to management) isinvolved in strategy is questionable. For ex-ample, Pye (2002, p. 157) states that boardsare rarely the originators or formulators ofstrategy. Strategy is primarily shaped by exec-utive directors, although non-executive direc-tors do have a role to play in this process. Ifthis is true, then it follows that the board’sstrategic input is limited, compared with thatof management.

The distinction between the board directing,and management managing is important here.

Shareholder value not the only aspect of the firm of interest to directors

Board responsibilities may manifest moredirectly in other significant areas besides firmperformance (Cravens and Wallace, 2001).

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Most directors are aware of their monitoringrole – controlling the agency conflicts betweenmanagement and shareholders. However, it isnot clear that this role extends to ensuring thatall management decisions are consistent withenhancing shareholder value, resulting in bet-ter corporate performance. Given the multipleroles identified in Table 1, many decisions arelikely to be made by directors which are goodfor the company but which do not lead toincreased shareholder value. Ignoring thirdparty effects is a weakness of agency theory.Third parties are those affected by the contractbut who are not party to the contract. Individ-ual board members are likely to take accountof such third party effects, but by so doingthey may not be enhancing shareholder value.Also contributing to an expectations gap is theassumption that shareholders are only inter-ested in shareholder value and have no inter-est in third party effects. The growth of ethicalfunds suggests that such a singular view ofshareholder objectives is inappropriate.

Limited ability to monitor and control

Researchers assume that boards can exerciseconsiderable control over management. Yetboards are perceived to be a relatively weakmonitoring device (Maher and Andersson,1999). Again a careful analysis would showthat the main method of boards exercisingcontrol is by hiring and firing a CEO, which isa crude, one-off, limited ability to exercise con-trol (see below).

The term “control” needs more discussion.There is a difference between control and man-aging. Control is “the power to affect manag-ing of a corporation” (Kotz, 1978, p. 17), “thepower to determine the broad policies guidingthe firm” (Kotz, 1978, p. 1). Subordinates maybe actively engaged in decision making, whilethose in power appear on the surface to beinactive. Because the board is responsible forselecting, evaluating and removing manage-ment, it sets the boundaries within whichmanagerial decisions will occur (Mizruchi,1983). As long as a board has the ability toremove management, then it has control. Her-man (1981) suggests that boards have variousdegrees of latent power (such as firing theCEO) and this power is likely to be exercisedin rare circumstances.

The board can be an effective discipliningmechanism, and as such can raise manage-ment’s game:

While the president is reasonably sure that theoutside directors will not raise any embarrass-ing questions, the very requirement of appearingbefore his directors, who are usually respected

peers in the business world, is a discipline itselfnot only for the president but also for the in-siders on the board and insiders who are not onthe board. The latent possibility that questionsmight be asked requires that the top executivesof the company analyze their present situationand be prepared to answer all possible questionswhich might – but probably will not – be raisedby friendly directors. (Mace, 1971, p. 23)

The mere existence of outside directors makes usthink a little bit harder, makes us organize ourthoughts. It sharpens up the whole organization.(Mace, 1971, p. 24)

Romano (1996, p. 285) refers to the difficultyfor non-executives in exercising their monitor-ing role. She asks:

Should, for instance, a monitoring board beexpected to enhance performance on an ordinaryday-to-day basis, or over some longer horizonperiod, compared to non-monitoring (insider-dominated) boards, or should we expect itscomparative benefit to appear only in timesof exigency, acting in a crisis interventionmode . . .

Romano (1996) goes on to posit that in a per-fect world independent boards would havea continuous effect on management perfor-mance, reacting immediately to manage-ment’s slightest failure. But is this a reasonableexpectation in the imperfect worlds in whichwe live? Her review of the literature points herto the conclusion that monitoring boards areimportant in extraordinary as opposed to ordi-nary (day-to-day) operations.

Pye (2002, p. 159) finds that directorsacknowledge the limits of their influence oncompany boards. This may relate to the keytension that boards act as a collective and it isdifficult for individual directors to identifytheir unique contribution in isolation from thegroup dynamic. Pye (2002) cites the exampleof an experienced director who made apowerful and effective contribution on oneboard of a company performing well, and yetthe same person on another board of a poor-ly performing company was not able to con-tribute in the face of a dominant CEO. Thus,a host of factors affect actions and decisionson each board.

Differences in risk appetites of shareholders and directors

Risk appetite is the amount of risk exposure,or potential adverse impact from an event,that an organisation/individual is willing toaccept/retain. Many shareholders have con-siderable risk appetites as they have theopportunity to diversify their risks by invest-


585



ing in a wide range of assets. Managers aremore risk averse as their interests are tied to asingle company (their employer). Directors areeven more highly risk averse. Not only arethey (like management) tied to a single com-pany, but the remuneration derived therefromis relatively modest, while (arguably) theirmost valuable asset, their reputation, is depen-dent on the company not being the subject ofa scandal. Thus, directors and to a lesser extentmanagers are more risk averse than share-holders. Rather than contributing to share-holder value, their risk-aversion may havequite a contrary effect.

Fama and Jensen (1983) and Bhagat

et al

.(1987) argue that outside directors possess anincentive to act as monitors of management asthey wish to protect their reputations andavoid lawsuits. Association with a failing firmcould be disastrous for a non-executive’scareer, whereas association with a mediocre oreven poorly performing firm is unlikely tohave the same reputational impact. Gilson(1989) found that board members of failedfirms had significantly reduced chances ofobtaining future board positions.

Board decisions are a result of consensus

Boards make decisions as a group and boarddecisions are therefore the product of consen-sus. Consensus decisions may not be the bestdecisions for the company. Board decision-making may encourage groupthink, a situa-tion in which people modify their opinions toreflect what they believe others want them tothink. As a result, this may lead to groupsmaking a decision that few or even none of themembers individually think is wise. It can alsolead to a few dominant individuals making alldecisions. Battiston

et al

. (2003) demonstratehow director prior relationships influencedecision outcomes.

Performance gap and company boards

In relation to boards of directors, there is aperformance expectations gap as follows:

• Monitoring in practice is difficult.• Firing the CEO.• Board does not exercise day-to-day control.• Information asymmetry.• Non-independent boards.• Other limitations of boards.

Monitoring in practice is difficult

Boards vary in their ability to monitor. Reay(1994) reported a survey which found thatonly 41 per cent of institutional investors

considered that non-executive directors wereeffective in a monitoring/watchdog role.

Firing the CEO

In deciding to fire a CEO (the ultimate powerof a board) a range of CEO competencies exists(likely to assume a normal curve pattern). Atwhat point of incompetence does the CEO failthe test such that the board is driven to fire theCEO? According to Mizruchi (1983) this boardcontrol function may include only a “bottom-line” ability to oust the CEO.

One of the interviewees in Mace (1971, p. 15)captures this sentiment as follows:

The only decision which we as directors will evermake in that company will be to fire the presi-dent, and things have to get pretty awful beforewe would ever do that.

But many outside directors funk this hardtask.

It takes an awful lot of guts for a board memberto be on a board, see things he doesn’t like, andthen ask the pertinent and discerning questionsof the management. Such men are rare birdsindeed. It takes more guts than most peoplehave. What they usually do is say, “Life is tooshort, and I’ll resign from the board.” Resign-ing, however, does not solve the company’sproblems – only that of the director who doesn’thave the guts to stay. (Mace, 1971, p. 61)

Boards hire the CEO. As a result, boards mayhave a conflict of interest in that subsequentlyfiring the CEO suggests the board’s originaldecision was wrong.

Boards may fire managers, not because theyare under-performing, but because it makesthe board look strong and in command of adifficult corporate situation, and maybe todeflect blame from the board to the CEO(Wiersema, 2002).

Board does not exercise day-to-day control

The distinction between day-to-day manage-ment and directing companies is important inhow directors exercise their duties. Manage-ment exercises day-to-day operating control,and the board exercises long-run policy con-trol. This distinction is enshrined in law. Caselaw provides that a director is not bound togive continuous attention to the affairs of thecompany but is expected to attend boardmeetings with reasonable regularity.

Executives are responsible for day-to-daymanagement. Non-executives should not in-terfere in day-to-day management and shouldlimit their involvement to an oversight role.Denis (2001, p. 201) expands on this point

586




when she says “Alternatively, it may be thatoutside directors are not important in the day-to-day operations of the firm but that they areeffective monitors during important discreteevents . . .”.

Management is expected to exercise day-to-day operating control, which gives them inti-mate knowledge of the business, putting theboard at a disadvantage. The board’s input islimited compared with that of management.

Information asymmetry

Incompetent, devious managers may seek toconceal the truth by withholding accurate andtimely information. In such circumstances,expert outside board directors are unable toact effectively (exercise control) when requiredto do so. External auditors should furnish theboard with information but this may fail, andexternal auditors may feel closer to manage-ment than the board.

Another difficulty in measuring management isthat the outside board members can respondonly or principally to the material and datawhich are presented. It should be noted here thatappraising the president’s performance can belimited by what the president, who controls thesources of information, chooses to make avail-able. (Mace, 1971, p. 30)

Boards are not independent

Boards are assumed to be more effective (atleast at monitoring and control) if they areindependent. There are a number of reasonswhy boards may not be independent.

• Selection and appointment of directors bymanagement, not by shareholders (es-pecially where shareholdings are diffuse).

I believe the basic cause for the decline of theboard is the fact that many chief executives arenot really convinced they want a strong in-dependent group of directors. (Mace, 1971,p. 77)[The president] then will throw off the boardthose directors who can’t, or won’t, go alongwith his ideas. The president has to feel his wayuntil he is satisfied that he can in effect dominatea majority of the board. (Mace, 1971, p. 78)What any new board member finds out veryquickly in our company is that it is verydifficult to do anything except go along with therecommendations of the president. Becausedirectors who don’t go along with them tend tofind themselves asked to leave. (Mace, 1971,p. 79)In the companies I know, the outside directorsalways agree with management. That’s why they

are there. I have one friend that’s just thegreatest agreer that ever was, and he is on adozen boards. I have known other fellows thathave been recommended to some of the samecompanies as directors, but they have nevergotten anywhere on the list to become directors.Because if a guy is not a yes man – no sir, heis an independent thinker – then they aredangerous to the tranquillity of the board room.Company presidents are afraid of them – everydamn one of them. (Mace, 1971, pp. 99–100)

• Boards may comprise affiliated (e.g. formermanagement, those with business relation-ships with the company) rather than out-side independent directors.

Other limitations of boards

There are many other limitations of boardswhich have been discussed extensively in theliterature and are summarised here:

• Outside, independent directors are part-timers who lack expertise, knowledge andinformation about the firm’s business;executive directors are full-timers who lackindependence.

• Directors sit on several boards and do nothave the time for effective oversight.

• Prestige without substance:

You’ve got to have the names of outside directorswho look impressive in the annual report. Theyare, after all, nothing more or less than orna-ments on the corporate Christmas tree. Youwant good names, you want attractive or-naments. (Mace, 1971, p. 90)An ounce of image is worth a pound ofperformance. (Mace, 1971, p. 105)

Figure 1 summarises the perspective taken inthis paper.

Suggestions for future research

Much prior research is based on taken-for-granted assumptions about corporategovernance. The existing evidence on manyindividual corporate governance mechanismsfails to establish a convincing link betweenthese mechanisms and firm performance. It ispossible there is no such link. Boards of direc-tors may not have a meaningful impact onfirm values. While boards may be an effectivecorporate governance mechanism in theory,Denis and McConnell (2003) state that in prac-tice their value is less clear. Researchers mightreconsider whether the assumptions of a re-lationship between corporate governance andfirm value is justifiable. These are questionsthat must be addressed empirically.


587



In a discussion on the use of commercialgovernance metrics, Sonnenfeld (2004) con-cludes that it is the human dynamics aroundboards as social systems that really differenti-ates a firm’s governance, citing his earlierwork (Sonnenfeld, 2002) in this context. Thispoints to a need for a different approach toresearching governance, based on more quali-tative approaches than some of the priorresearch cited above.

The expectations gap perspective discussedin this paper provides one way forward inattempting to improve our understandings ofcompany boards. Porter’s (1993) analysis ofthe structure of the audit expectations gapcan be extended to boards of directors. Thus,the expectations gap in relation to companyboards has the following components:

• A

g

ap between what society (i.e. non-boardinterested parties) expects boards to achieveand what they can reasonably be expectedto accomplish.

• A gap between what society can reasonablyexpect boards to achieve and what theyare perceived to accomplish. This can bedivided into:

– A gap between the duties than canreasonably be expected of boards and therequirements as defined by legal andother regulations.

– A gap between the expected standard ofperformance of boards’ existing dutiesand the perceived performance of boardsas expected by society.

Who are the subjects?As was stated at the beginning of this article,an expectations gap is the result of differencesin opinion or perceptions between two ormore groups. Expectations gap research there-fore must identify and select groups of sub-jects for research. Table 2 summarises a list ofpossible groups for research.

Comparison of the views of subjectsSome possible permutations and combina-tions of groups for research are considered inTable 3. Expectation gaps in relation to corpo-rate boards may be categorised between thosethat exist within the company, and those thatexist between the company and outside

Figure 1: Expectations gap: the role of company boards and shareholder value

Expectation that

corporate governance leads

to increased shareholder value

Reasonable expectations of

boards

• Lack of clarity and conflicting role of boards

• Roles negatively influencing company performance

• Role of management versus role of boards

• Shareholder value not the only aspect of the firm of interest to directors

• Limited ability to monitor and control

• Differences in risk appetites of shareholders and directors

• Board decisions are a result of consensus

EXPECTATIONS GAP

• Monitoring in practice is difficult

• Limited ability to exercise control, through (say) firing the CEO

• Board does not exercise day-to-day control

• Information asymmetry between boards and management

• Boards are not independent

Legislators’

intentions that corporate

governance protects

shareholders’ investment

Boards’ actual

performance

588 CORPORATE GOVERNANCE



stakeholders. Examples of within-companyexpectations gaps and external companyexpectations gaps are set out in Table 3.

In addition, there may not be homogeneityof views within groups, which needs to beconsidered. A first step in this kind of researchis to test this assumption, before comparingthe views of two of more groups. The views ofindividuals within specific groups would haveto be compared before it could be concludedthat they all share the same view of the world.If the board is a strong diverse board, diversityof opinions of the roles and responsibilities ofthe board may emerge. If the board hasinexperienced directors, those individualsmay not fully understand their roles andresponsibilities.

A further consideration is whether theresearch would compare the composite viewsof two groups, or the views of individuals intwo separate groups. In the past, expectationsof boards have been measured by surveyingnon-executive directors. However, it is wellknown that people in groups operate differ-ently to individuals, and for this reason theremay be differences in the expectations gaps ofindividual non-executive directors and thoseof boards as a whole.

Different types of organisationThe discussion so far in this paper hasassumed that companies under considerationare publicly-quoted companies. The expecta-tion that the role of the board is to generateshareholder value may not be appropriate forother types of organisation such as statecompanies, public bodies, not-for-profits,family businesses, high-tech companies, char-ities etc. Interesting additional insights onvariations in expectations gaps by reference totype of organisation suggest that this type ofresearch should be broadened beyond publiccompanies.

Expectations gap research designA wide range of research tools are possiblein researching expectations gaps. The mostcommon is postal questionnaires, but priorresearchers have already acknowledged thelimitations of these instruments (Humphreyet al., 1993). A case study approach has alsobeen applied examining the differences inactions taken under varying circumstancesbetween different groups of respondent(Humphrey et al., 1993). In-depth unstructuredinterviews have been used for expectationsgap research (Alleyne and Howard, 2005).Expectations gap research could also be pur-sued using case studies in the field, looking atexpectations gaps between a myriad of sub-jects within a single organisation.

Issues to be addressed

Using prior research in external auditing asa guide, Table 4 broadly-speaking identifiessome issues that might be addressed in boardexpectations gap research. Research may takeparticular duties or corporate governancefunctions of boards, and examine in a morefocused way any expectations gaps aroundthese particular issues. Functions that are cur-rently topical that come to mind includeexecutive remuneration (where judging frommedia reporting, there is a considerable varia-tion in expectations of society versus that ofboards) and oversight of financial reporting.

Some of the issues outlined in Table 4 arediscussed further below.

Boards of directorsResearchers in the past have made crude valuejudgements to distinguish good and bad gov-ernance. Earlier studies distinguished goodand bad by reference to simple metrics such asthe proportion of outside directors on theboard, separation of the role of chairman and

Table 2: Subjects for expectations gap research oncompany boards

Group 1 (board ofdirectors)

Group 2 (stakeholders)

Whole boards Within companiesBoard directors Company managementExecutive directors Executive directorsNon-executive

directorsCEOs

Board chairmen External stakeholdersInvestorsInstitutional investorsInvestors from different

countriesFinancial/investment

analystsLegislatorsRegulatorsBankersAcademicsLawyersFinancial journalistsMembers of the general

public

BOARDS OF DIRECTORS AND FIRM PERFORMANCE 589



chief executive, etc. More recent studies haveincluded multiple metrics such as Larcker et al.(2004) (38 governance measures); Bebchuket al. (2004) (24 governance measures); Gomp-ers et al. (2003) (24 governance measures);Brown and Caylor (2004) (51 governance fac-tors). However, assumptions underlie the divi-sion of these metrics into good and bad withinsufficient research supporting such valuejudgements.

This is an area that requires considerablymore research. What is “good” governance?What makes a board “good”? How do wemeasure “good”? How should quality of theboard be measured? How should the uniquecontribution of the board be measured?

The issue of conflicting roles of boards, andunderstanding the expectations of different

subjects around the trade-offs to be made insuch circumstances, is likely to be a rich sourceof material to contribute to the varied under-standings of board processes. Earlier, 19 differ-ent roles for boards were identified, many ofwhich are conflicting. How do boards/indi-vidual directors make trade-off decisions inrelation to their various different (conflicting?)roles? This is an issue that requires furtherinvestigation.

Future research should more explicitlyrecognise the conflict for company boardsbetween protecting shareholder interests onthe one hand and generating shareholdervalue on the other. The best measure of pro-tection of shareholder investments is firm sur-vival rather than long run shareholder returns.In fact, prior research has shown stronger and

Table 3: Combinations of subjects for expectations gap research on company boards

(1) Within-company expectations gaps External company expectations gaps

(1)(a) Within-group, within-company expectationsgaps

Boards/Directors/Non-executivedirectors/Executive directors – Investors

Individual board directors Boards/Directors/Non-executive directors/Executive directors – Institutional investors

Individual executive directors Boards/Directors/Non-executive directors/Executive directors – Financial/investment analysts

Individual non-executive directors Institutional investors – individual investors

Individual senior managers Boards/Directors/Non-executive directors/Executive directors – Legislators

(1)(b) Between-group, within-company expectations gaps (composite group views, or individual views)

Boards/Directors/Non-executive directors/Executive directors – Regulators

Whole board – Management team/Managementteam members/Executive directors/CEOs

Boards/Directors/Non-executive directors/Executive directors – Bankers

Board directors – Management team/Management team members/Executive directors/CEOs

Boards/Directors/Non-executive directors/Executive directors – Creditors

Non-executive directors – Management team/Management team members/Executive directors/CEOs

Boards/Directors/Non-executive directors/Executive directors – Academics

Board chairmen – Non-executive directors Boards/Directors/Non-executive directors/Executive directors – Lawyers

Board chairmen – Management team/Management team members/Executive directors/CEOs

Boards/Directors/Non-executive directors/Executive directors – Financial journalists

Boards/Directors/Non-executive directors/Executive directors – Employees

Boards/Directors/Non-executive directors/Executive directors – Members of the general public




more consistent findings on the relation be-tween corporate governance and firm perfor-mance, where firm performance is proxied byfinancial distress or firm survival (Daily andDalton, 1994; Elloumi and Gueyie, 2001; Ham-brick and D’Aveni, 1992; Pfeffer, 1972) ratherthan shareholder value.

There is a growing belief in business that per-formance cannot be encapsulated in a singleperformance number, and that a balanced-scorecard approach is more appropriate tocapture the multi-faceted contributions ofbusinesses and individuals. More qualitativeresearch approaches, such as those suggestedearlier, might allow researchers to takeaccount of effects that cannot easily be cap-tured using modelling and empirical testingthereof.

Related to this is the question of whetherthe objective of a company should solely beto generate profit or shareholder value, orwhether wider corporate objectives shouldalso be included. Maybe generation of share-holder value should not be the uncompromis-ing objective of companies. Should we expect,first and foremost, that our companies are cor-porate good citizens (even if this is at the

expense of shareholders), followed by efficientgeneration of shareholder value? Qualitativeresearch, such as questionnaires, in-depthinterviews, case studies and field study work,might be applied to expand the more usualagency theory approaches of prior research toinclude third party effects of corporate be-haviour, and the influence of corporategovernance thereon.

Contribution of managementPrior research has placed too much faith in theperformance of company boards. What is thecontribution of management, versus the con-tribution of the board? Is the contribution ofmanagement to generate shareholder value,and the board to protect shareholder invest-ment? To what extent do boards of directorscontribute to firm survival rather than toshareholder value? This paper tends toassume that company management ratherthan company boards have the primary role ingenerating shareholder value. For this reason,senior management is paid in the form ofshare options, to motivate them to performwell in generating shareholder value. Con-

Table 4: Issues to be addressed in expectations gap research on company boards

Duties/roles/responsibilities of directors (which must be identified and listed)– What are the existing duties of boards/directors?– How well are the existing duties of boards/directors performed?– Should this duty be performed by boards/directors?– How do boards/directors trade-off between conflicting roles and responsibilities?– What are the respective contributions of the board versus the non-executives versus

management?

Attributes of boards/directors/management– What constitutes good/bad governance? How should good/bad governance be measured?– What constitutes good/bad quality boards? How should quality of boards be measured?– What constitutes effective boards? How should board effectiveness be measured?– What attributes of directors most closely associated with the performance of effective boards?– What are the attributes of management most closely associated with the performance of

effective boards?– How do interactions between boards/directors and management influence board

effectiveness?– What are the attributes of management most closely associated with the performance of the

company?– What constitutes good/bad company performance? How should good/bad performance be

measured?

Behaviour of management– To what extent does management deliberately contribute to an expectations gap?

Behaviour of regulators– To what extent do regulators mislead stakeholders about the integrity of capital markets,

thereby contributing to an expectations gap?




versely, modern corporate governance prohib-its paying non-executive directors in the formof share options (e.g. Code provision B.1.3 ofthe Combined Code 2003). This implicitlyacknowledges that the role of non-executivedirectors is not primarily to generate share-holder value.

Does the contribution of managementdepend on the quality of management? It can-not be assumed that all company manage-ments are equally effective (however effectiveis defined). For these reasons, future corporategovernance research must include somemeasure of management competence ratherthan or in addition to a measure of board effec-tiveness. How should quality of managementbe measured? Should a single measure ormultiple measures be used?

Prior corporate governance research tendsto treat boards and management as a singlevariable. Greater recognition should be madethat the contribution of boards and of manage-ment are different. Research should includemetrics to capture their respective contribu-tions. Variables capturing the contribution ofboard and of management need to be includedtogether in models of governance. Researchdesigns need to be developed that isolate theimpact of management versus that of boardsand to facilitate the direct examination of thedifferential contributions of management andboards. Many leadership characteristics havebeen used in prior research to try and explainfirm performance. Characteristics of CEOs(dominance, charisma, transactional leader-ship, etc.) have been examined, although find-ings have not been conclusive (Ashley andPatel, 2003).

Is the contribution of management indepen-dent of the contribution of the board or arethere interaction effects between the two? Doboards and management act in a complemen-tary way? More refined measures could bedeveloped that capture the interaction effectsof boards and management.

ShareholdersBoards act on behalf of shareholders. But doboards know what shareholders want? Whatdo shareholders want from a board of direc-tors: shareholder value, modified shareholdervalue (modified by corporate responsibilityobjectives), firm survival? Research into theeffectiveness of company boards is impossiblewithout clarity around these questions.

To complicate matters, there are differenttypes of shareholders. Do all shareholderswant the same from a board of directors?Institutional versus individual shareholders;shareholders from different countries; share-

holders from different cultural backgrounds,etc. Institutional shareholders represent indi-vidual shareholders (pensioners, individualinvestors, etc.). Do institutional shareholdersknow what is expected of them by their under-lying investors (e.g. pensioners) in terms oftheir relationships with, and expectations of,boards of directors?

How are institutional shareholders remu-nerated? Are they remunerated in a mannerthat reflects shareholder’s expectations? Areinstitutional shareholders motivated to per-form as expected by underlying investors (e.g.pensioners with longer term horizons)?

Other issuesIn relation to all of the issues for futureresearch, it cannot be assumed that they applyin the same way across all jurisdictions. Arethere any cross-cultural, cross-country varia-tions in these issues?

Concluding comments

This paper questions whether generatingwealth for shareholders is the sole or evenprime role of boards of directors. The aca-demic community is reluctant to conclude thatthere is no relationship between firm perfor-mance and boards of directors. For example,Gillies and Morra (1997, p. 77) referring toboard structure state “Common sense tells usthat there is a relationship between corporategovernance and firm performance”. LeBlanc(2001) has surveyed directors and an over-whelming majority were of the opinion thatboards do contribute positively (and in somecases negatively) to the bottom line.

Ambiguities around the role of boards inregulations and in the academic literaturesuggest that directors may have a temperedapproach to revenue generation. Unfetteredassumptions that directors have shareholdervalue as their number one priority may not bevalid in practice. The board may see its roleas primarily protecting (not generating) theshareholders’ investment by ensuring the sur-vival of the company. Directors may have tomade tradeoffs between the amount of riskmanagement should take in generating share-holder value versus the stability and survivalof the company. Rather than asking whethergood governance generates shareholder value,a more realistic question might be: Does goodgovernance stop the destruction of share-holder value? Research might re-focus onthe differences between failed and non-failedfirms to see whether we have more to learnfrom bankruptcy.




Benefits of expectations gap research

This type of research could assist corporategovernance in the following ways. It wouldassist regulators by providing inputs frominvestors and others involved in corporategovernance in the development and clarifica-tion of corporate governance best practicestandards. Regulators would be able to focuson areas where public perceptions are per-ceived as not being met. Such research wouldprovide evidence on further measures thatneed to be taken to reduce the expectationsgap around company boards.

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Niamh Brennan, a chartered accountant, isMichael MacCormac Professor of Manage-ment, and is Academic Director of the Centrefor Corporate Governance at UCD. She haspublished widely in the areas of FinancialReporting (voluntary disclosure and impres-sion management), Corporate Governance(boards of directors and non-executive direc-tors) and Forensic Accounting. Prof. Brennanis a non-executive director of Ulster Bank andof the Health Services Executive, and she isa former non-executive director of LifetimeAssurance, Bank of Ireland’s life assurancesubsidiary, of Coillte, the State forestry com-pany and of Co-Operation Ireland.

boards of directors and firm performance: is there an expectations gap?

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