New GLC research by Dr Alex Frino on director independence - “balanced boards outperform”


    The AICD’s Governance Leadership Centre is pleased to launch its latest commissioned research, exploring the relationship between board independence and stock price performance.

    The AICD’s Governance Leadership Centre is pleased to launch its latest commissioned research, exploring the relationship between board independence and stock price performance.

    The Governance Leadership Centre commissioned the research, undertaken by Professor Alex Frino (Professor of Economics and Deputy Vice Chancellor (Global Strategy) University of Wollongong), as a contribution to the debate about board composition and performance.

    Professor Frino’s research finds that:

    • Balanced boards, that is, those with between 30% and 60% of independent directors, outperform others, with evidence strongest in the 40% to 60% category; and
    • There is a non-linear relationship between stock returns and board independence.

    The research suggests further areas for study such as the substantial shareholder test and how industry knowledge and experience held by independent directors affects stock performance.

    Research snapshot

    This important new study finds that within ASX 200 companies, those with balanced boards (between independent and non-independent directors) outperformed others in terms of market-adjusted stock price returns.

    The research identifies a “sweet spot” - where independent directors comprise between 40% and 60% of the total board – showing the strongest statistical result for out-performance.

    Professor Frino’s paper, ‘The relationship between board independence and stock price performance’ is based on a review of ASX 200 companies between 2004 and 2012.

    The results of this research confirm that representation by independent directors can improve company performance measured in terms of stock returns – to a point. Companies which have “balanced” boards outperform those with both little or no independent directors and those with little or no non-independent directors.

    Asked to summarise the key take-outs from the research, Professor Frino said: “Quite simply, that balanced boards are best. Having independent directors on boards adds value, as does having non-independent directors who may be former executives or who hold substantial shareholdings. Getting the mix right is what matters.”

    Why did the Governance Leadership Centre sponsor this research?

    The Governance Leadership Centre commissioned this research to contribute to a robust framework for debate on the value offered by independent directors.

    It is widely accepted that independent directors play an important role in achieving good governance. While the definition of “independence” varies, the importance of independence features in almost all global governance standards, from the Organisation for Economic Co-operation and Development (OECD) to virtually every major stock exchange.

    In Australia, the ASX Corporate Governance Principles & Recommendations recommend that a majority of the board should be independent, under the “if not, why not” disclosure model. This is taken further by some who explicitly argue for a majority of independent directors (for example, the ACSI Corporate Governance Guidelines and APRA’s Prudential Standards). The AICD also promotes the important contribution of independent directors to effective governance.

    Professor Frino’s paper makes an important contribution to the governance debate on the value of independent directors. Frino’s study is the first in Australia and among the few globally to examine stock price returns, rather than return on assets or equity or market-to-book ratios. This new research also seeks to understand how performance varies as the proportion of independent directors rises or falls, showing a curvilinear relationship between the two.

    Previous published literature examining the relationship between board independence and company performance has produced conflicting results, and has measured company performance based on return on assets, return on equity, Tobins Q and market-to-book ratios. In this paper, the relationship between board composition and company performance is re-examined using stock price performance – a measure more closely aligned with shareholder interests. The project was complex and time-consuming, taking over a year.

    The GLC is pleased to publish the key findings as part of our ongoing research series. Download the report below.

    For a copy of the full academic paper, please contact the Governance Leadership Centre at the AICD.

    About the researcher

    Professor Alex Frino is a distinguished economist and Deputy Vice Chancellor (Global Strategy) at the University of Wollongong. He is one of the best published finance academics in the world with over 100 papers in leading scholarly journals. Professor Frino was previously Dean of the Macquarie Graduate School of Management and Chief Executive Officer of the Capital Markets Cooperative Research Centre, a $100M research installation funded by the Australian government and partnering with 20 global financial corporations.

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