The Monitoring and Advisory Functions of Corporate Boards: Theory And Evidence

57 Pages Posted: 27 Aug 2008

Date Written: February 3, 2008

Abstract

I develop and test a model of the two primary functions of the board of directors of a public corporation: monitoring and advising management. The model shows that higher advising intensity is associated with lower monitoring quality and higher agency costs. To test the model, I use the number of independent directors who are at the same time executive board members of other corporations as an empirical proxy for the board's advising intensity. I test and find evidence for the validity of this empirical proxy, by contrasting the corporate policies independent executives (IEs) choose for their own firms with those they advocate as outside directors. Consistent with the predictions of the model, I find that IEs are associated with proxies for higher agency costs. I also find that IEs are positively, significantly, and causally associated with firm performance. Finally, I argue that the significant relation between IEs and firm performance is due to the scarcity of IEs, and use the passage of Sarbanes-Oxley Act as a natural experiment to demonstrate the validity of this argument.

Keywords: Corporate Governance, Board of Directors, Advisory, Monitoring

JEL Classification: G30

Suggested Citation

Chen, Dong, The Monitoring and Advisory Functions of Corporate Boards: Theory And Evidence (February 3, 2008). Available at SSRN: https://ssrn.com/abstract=1251846 or http://dx.doi.org/10.2139/ssrn.1251846

Dong Chen (Contact Author)

University of Baltimore ( email )

1420 N. Charles Street
Baltimore, MD 21201
United States

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