Deck 2: Quality Assessment

Question 1

Is there a conflict between agency theory and the concept of organizational stakeholders?

Answer 1

Agency theory is concerned with problems that occur in relationships between principals (owners) and their agents (top management). Because agents are, in effect, "hired hands," their interests are not usually aligned with those of the owner (stockholders) of a corporation. Consequently, agency theory is primarily interested in ways to better align these two sets of interests, such as management owning significant shares of stock or having a strong financial stake in the long-term performance of the corporation via long-term incentive plans. This helps to ensure that management looks beyond selfish short-term benefits of a decision to the more strategic issues that concern stockholders. The concept of organizational stakeholders, in contrast, looks at more than just owners and managers. It argues that groups other than stockholders and top management have a significant stake in the actions of the corporation and need to be considered in strategic decisions. What might benefit owners and management might hurt employees, the local community, or the environment. The concept of stakeholders thus proposes that the suggestions of agency theory are incomplete and insufficient to ensure that top management deals fairly not only with stockholders, but also with the needs of all concerned stakeholder groups. As it is currently defined, agency theory is more in agreement with Milton Friedman's narrow view of the responsibilities of a corporation than with the stakeholder view more common to concerns of social responsibility. (See Chapter 3 for Friedman's view of corporate responsibility.) This could change if society begins to consider top management not only as direct agents for stockholders, but also as indirect agents for other groups with a stake in the corporation's activities. Agency theory could thus be expanded to include the concerns of other interested groups and thus incorporate the stakeholder approach.

Question 2

What recommendations would you make to improve the effectiveness of today's boards of directors?

Answer 2

The following are among the many suggestions often made:
-Add more outsiders (people not affiliated with the corporation) to the board of directors. Keep the percentage of insiders (typically top management) to less than 50% of board membership.
-Separate the positions of CEO and Chairman so that top management cannot unduly influence the board's meetings and agenda. This should improve the board's ability to properly evaluate top management. If the Chair can't be separated from the CEO, select a Lead Director from among the outside directors.
-Use a committee composed of outsiders to nominate potential new directors. This will help to ensure that potential members are not friends of top management who may owe more allegiance to the CEO than to the shareholders.
-Nominate people to the board who have knowledge valuable to the board and who have expertise of value to top management. These should be people who will have the respect of top management and who can both advise and criticize top management as needed. Make sure that they are diverse in terms of background and experience.
-Require board members to own substantial amounts of stock in the corporation to ensure that they have a personal as well as professional stake in the welfare of the corporation.
-Allow shareholders to nominate people for election to director.

Question 3

Why is the combined Chair/CEO (or Managing Director) position being increasingly criticized by most management scholars?

Answer 3

It has been observed in many studies on management that boards of directors tend to be more effective when an individual does not simultaneously occupy the positions of Chief Executive Officer (CEO) and chairperson. Such a situation, wherein a CEO is also the chairperson of the governing board, is referred to as CEO duality. A chairperson of a governing board may not necessarily be the leader of the board; in certain instances, the chairperson simply conducts the meetings of the board and sets the tone of the board. Their strength as a leader may well determine the effectiveness of the board. The separation of the position of chairperson of a governing board from the CEO position can significantly help directors prevent crises, act swiftly and effectively in the event of a crisis, and objectively evaluate the impact of crises. CEO duality usually has an adverse effect on organizational performance. For example, it has been observed that the bankruptcy rate tends to be positively correlated with CEO duality.

Question 4

What are the roles and responsibilities of an effective and active board of directors?

Question 5

What would be the impact if the only insider on a corporation's board were the CEO?

Question 6

How should a board of directors be involved in the executive leadership of an organization?

Question 7

Is there a close relationship between the composition of a board of directors and the organizational performance?

Question 8

When does a corporation need a board of directors?