RESEARCH
  • Governance

External Directors and CEO Power

How corporate governance is weakened when the CEO is the only insider on the board



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Decades of corporate malpractice from ENRON onwards have driven the corporate governance debate and specifically the call for independent oversight. As a consequence, boardrooms once inhabited almost solely by company insiders have filled up with outside directors.

New research, from Mary-Hunter McDonnell at Georgetown’s McDonough Business School and colleagues, shows that paradoxically having the CEO as the only insider on the board actually enhances the CEO’s power and undermines outside oversight.

Increasingly corporate boards have the CEO as the only insider. This movement toward near unanimous outside directors would seem to provide the independent oversight that have defined corporate boards since the corporate scandals of the 1980s and 1990s. This, new research — based on data from over 200 companies covering the years 1981-2007 — reveals that the impact of reducing insider membership to only the CEO has the opposite effect. It reinforces the power of the CEO, and diminishes the power of the directors.

CEOs, as the only insider board member, can build their power in various ways:

  • Gatekeeper of the information: When CEOs are the only insiders they become in essence the gatekeepers of all information that flows from the company to the board. CEOs are able to shape the information to correspond to their needs.
  • Building status: By being the only representative of the company on the board, CEOs have the opportunity to build up their status and power in a way that other insiders cannot. Already powerful by position, the gap of power between the CEO and the rest of the company becomes even more pronounced and intense.
  • Removing contenders. Having no relationship or exchange with potential heirs, the board is at the mercy of the CEO to shape the succession process to favour handpicked successors. In addition, CEOs ensure their own survival in the position, since the board has no information on other potential insiders who could replace the CEO.

The researchers also looked at how CEOs build a corporate board with themselves as the only insider representatives of the company. They found that new CEOs who find a large number of company insiders on the board when they arrive are more likely to work to make the board CEO-only, and the more power and influence the CEOs gained, the more they pushed for CEO-only boards. ‘Dual’ CEOs, those that hold the positions of both CEO and Chairman of the Board, are the most powerful of CEOs.

Understandably the major corporate scandals of the 1980s on, caused by a lack of sufficient governance from boards of directors, have led to a push for more independent directors on the board, instead of insider directors.

Counter-intuitively, the idea that a board with only one insider, the CEO, is more likely to be independent, seems not to be the case. Quite the opposite.

It is important that boards bear this research in mind when considering the effectiveness of their corporate governance. Directors should closely examine the current accountability and information-gathering dynamics at their organization. Are they receiving all information from the CEO? Do they have any direct contact with other members of the C-suite that might be able to verify the CEO’s information? Is there any reliable succession planning in place?

Access the research paper: The Structural Elaboration of Board Independence: Executive Power, Institutional Logics, and the Adoption of CEO-Only Board Structures in U.S. Corporate Governance. John Joseph, William Ocasion & Mary-Hunter McDonnell. Academy of Management Journal (December 2014).


Since its founding in 1957, Georgetown McDonough has garnered global recognition for excellence in international business.





 
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