Research
Financial Crises and Failed Corporate Governance
The banking sector is special given the importance of credit to support economic growth, and enormous public costs periodically sustained to bailout extensive institutional failures. US banks fail in waves approximately every generation and are unable to cope with severe economic downturns and incur excessive risk in a predictable and preventable manner. Is good corporate governance focusing on efforts to refresh boards by age or term limits the cause of episodic failure? As institutions refresh boards, banks lose directors with experience related to prior periods of crisis. Consistent with the availability heuristic, recall and memory are important to judgment. If relatively few directors have personal experience of a prior financial disaster, they are unable to recommend more conservative strategies. While some deservedly will believe the proposal a reversal in good governance, banks should consider suspending term and/or mandatory age limits for a few directors. Each board will need to overcome common “blind spots†that young equals good. Ageism is well-known and documented. The proposal is consistent with academic research demonstrating that some attributes of “good governance†have proven harmful to firms in a crisis. There are problems for boards dominated by many longserving directors as identified by the CEO allegiance hypothesis. However, having no long-term, independent director experience has its own risk in the banking sector – failure.
Value Creation, Risk Management and US Bank Holding Company Governance
The role and responsibilities of a corporate board of directors changed dramatically since the failure of Penn Central in the US in 1970 and the release of the Cadbury Report in Britain in 1992. We study the board structure of large, systemically important US bank holding companies after the crisis of 2007/09 to determine if the number and composition of directors or the number and mix of committees provide value for shareholders and enhance credit ratings. The US retains a rules-based system of corporate governance whereby publicly-traded banks must comply with laws and operate with both an audit and an enterprise risk committee. There are no formal rules applicable to the number of directors, diversity or leadership of the board or formation of other committees. Holding company boards composed of more independent or female directors achieve better credit ratings consistent with adopting more conservative financial policies. Bank holding companies forming more committees, especially a finance/capital committee, retain a better credit rating and trade with a higher price/book valuation. Committee specialization enhances performance. An executive committee comprising a small subset of the board’s leadership may create an atmosphere of “elitism.†Yet, holding companies with such committees were priced with higher price/book valuations given the time and commitment of a small group chaired by the CEO to craft and implement a coherent business plan structured to increase return on equity and support future earnings growth.
