Influence Costs and the Scope of Board Authority

39 J. of Corp. L. 675 (2014)

39 Pages Posted: 20 Mar 2015  

Adam B. Badawi

Washington University in Saint Louis - School of Law

Date Written: August 17, 2014

Abstract

Economists have long attributed the existence of firms to their ability to exercise authority through a hierarchy. Superiors can command subordinates through fiat and, in so doing, avoid the negotiation and haggling costs that come with the use of contracts. Yet the body that wields ultimate authority in the firm, the board of directors, exercises relatively little of its plenary authority to run the corporation. Boards typically make only a handful of decisions, they meet only a few times a year, and many directors have a full-time job doing something else. This Article asks why boards put such sharp limits on their day-to-day involvement with the companies they control when the exercise of authority is so central to the existence of firms.

To answer this question, this Article draws on recent developments in the theory of the firm. This work examines how firms are likely to allocate authority among different constituencies, and it identifies the dangers associated with intrafirm lobbying. If the people who care most about a decision do not have the power to make that decision, they may exert substantial effort trying to influence those choices. This Article argues that this intrafirm dynamic can help to explain why boards circumscribe their authority. If directors try to exert too much authority, managers may spend too much of their time trying to influence the board rather than devoting effort to more productive tasks. This theory suggests that the scope of authority the board exercises will depend, in part, on a tradeoff between the minimization of agency costs and lobbying costs. This Article argues that this conception of the board’s role helps to understand why the movement to make boards more independent has not been a uniform success and why corporate law takes a unique approach to the regulation of agency costs.

Suggested Citation

Badawi, Adam B., Influence Costs and the Scope of Board Authority (August 17, 2014). 39 J. of Corp. L. 675 (2014). Available at SSRN: https://ssrn.com/abstract=2579976

Adam B. Badawi (Contact Author)

Washington University in Saint Louis - School of Law ( email )

Campus Box 1120
St. Louis, MO 63130
United States

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