Question

In Australia, the Australian Stock Exchange recommends that the majority of the board should be independent directors. However, there has been a lot of debate among scholars about the value of board of directors, especially for independent or outside directors. Many researchers argue, because of the competition in product and labour market, the managers’ interests are aligned with the interests of shareholders. Therefore, directors may not necessarily provide extra value to the firm by reducing the potential agency costs. However, those who believe the board of directors is a key mechanism of corporate governance acknowledge that directors, especially independent directors, monitor managers’ behaviour and create value for shareholders. Which arguments do you agree? What are the advantage and disadvantage of having independent directors in public listed companies?

Answer 1

Independent director: An independent director can be broadly defined as a non-executive director who is not a member of management and who is free from any business or other relationship that could materially interfere (or could reasonably be perceived to materially interfere) with the independent exercise of that director’s judgment.Some recommendation states that there should be a majority of independent directors on a board.

Advantage:The potential benefits of an independent board are well known. Independent directors are usually leaders with few reasons to be beholden to the CEO. Boards dominated by independent directors are better able to oversee the CEO and protect the interests of shareholders and other stakeholders. Increasing their number can foster better board performance by enhancing a company’s access to external resources and connections. A larger number of independent directors also allows a board to ensure that its members are not overburdened with oversight responsibilities to the detriment of strategic counseling. A fully independent board enables a company to reap these benefits without enlarging its board, thereby avoiding the potential disadvantages of a large board.

Disdvantage: traditionally independent directors prefer their company-specific strategy development skills by serving on their companies’ boards.Independent directors deny them this significant opportunity. While the board can invite non-member executives to participate in its deliberations as needed, this is an inadequate substitute for the spontaneous exposure to board discussions that comes with regular membership. Regardless of whether they are the best fit for the position, internally promoted CEOs appointed by fully independent boards are likely to face a steeper learning curve that can result in costly mistakes, especially during the initial years of their tenures..

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