Governing organizations the right way

Olubunmi Faleye teaching a recent class. Photo by Lauren McFalls.

April 27, 2009

Olubunmi Faleye grew up in Nigeria, a country where being a doctor or a nurse was considered the pinnacle of success.

But he dismissed the idea of a medical career, and instead chose to study something that, to many, can seem as mysterious as the human body: corporate governance.

Now a tenured associate professor of finance at the College of Business Administration and a Lloyd Mullin research fellow, Faleye has exhaustively researched more than 2,000 companies and approximately 18,000 corporate directors.

“My goal is to understand what works and what doesn’t in corporate governance,” says Faleye, who earned a doctoral degree in finance at the University of Alberta, Canada. “If we gain a better understanding of this, we can encourage better governance, which in turn will lead to better-run organizations.”

One aspect of Faleye’s research compares the effectiveness of elected boards of directors holding one-year terms with those holding alternating three-year terms.

By delving into U.S. Securities and Exchange Commission records and other resources, he looks at the impact the directors have had on managers and investors, including whether directors with lengthier terms offered good leadership and direction at a corporation, or whether their permanence led to complacency, entrenchment and poor corporate profits.

Faleye has found that boards with longer-serving members—which he refers to as “classified boards”—have a negative effect overall on corporations. In his paper “Classified Boards, Firm Value, and Managerial Entrenchment,” published in 2007 in the “Journal of Financial Economics,” he concludes that firms with classified boards tend to experience a significant reduction in firm value, and that such boards “significantly insulate” management from market discipline and board accountability.

“My results cast a shadow of doubt on the claim that classified boards protect shareholder interests and enhance the firm’s ability to create wealth,” he wrote in an introduction to the article. “Rather, the evidence suggests that these boards are adopted for managerial self-serving purposes, and that the recent wave of shareholder activism directed at eliminating them could well be justified.”

Faleye is currently studying how the distribution of directors’ workloads affects their leadership of a company’s affairs. Noting that a director has the dual responsibilities of being a coach and a judge, he and his co-authors have found that directors perform less well in advising and helping managers when most of their time is devoted to oversight duties.

The researchers conclude that the recent trend toward smaller boards and greater outside director involvement in board oversight can have significant unintended consequences, including lower firm value and poorer acquisition performance.

Faleye’s work to understand the ins and outs of corporate governance grew from his decision as a youngster to become a professor.

“I just liked books, and I loved to teach,” he says. “I knew when I was in elementary school that this is what I wanted to do.”

For more information, please contact Susan Salk at 617-373-5446 or at s.salk@neu.edu.

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