Members of a board of directors play a crucial role in the decision making processes of a company, which shape the company’s practices, strategies, future goals and overall success. Directors who are not are primarily employed by the subject company or those who sit on multiple boards may be at a risk of neglecting some of their key director responsibilities if they are preoccupied with too many things at once. This is not to say that busy directors will inevitably get distracted and neglect their responsibilities, but that directors ought to be mindful of juggling too many roles at once because of the negative impact it may have on the company.
Impact on effective board governance
In a recent article called “Distracted Directors”, Luke Stein and Hong Zhao of Arizona State University conducted research on the impact of distracted directors on effective board governance. They found that overall, distracted directors were less effective in their advisory and monitoring roles. For those primarily employed at another company, the level of distraction was especially pronounced when the primary employer was going through periods of poor performance.
Impact on M&A
Of particular interest is the impact that distracted directors may have on a company’s acquisition decisions. Directors often take on an advisory role when selecting and negotiating mergers and acquisitions. When directors are not actively engaged in the process as a result of outside obligations, Stein and Zhao found there to be lower returns around the announcement of acquisitions. When directors with M&A experience in particular were distracted during this period – those who the company would presumably turn to for valuable advice – the returns were significantly lower.
Board diversity can help
Since it is commonplace for directors to have outside obligations, it is advisable that companies structure their boards so as to mitigate the negative impact of distraction. Stein and Zhao suggest having larger boards with directors from a diverse range of industries. This is due to the fact that poor performance typically affects the same or related industries at once. Board diversity can help ensure that all directors are not distracted at the same time, thus having a lesser impact on effective board governance. A larger board of directors also has its benefits, as a greater number of directors on the board is more likely to absorb the negative impact that the distraction of a few directors may cause.
The author would like to thank Sadaf Samim, Summer Student, for her assistance in preparing this legal update.
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