Board Co-Option and Default Risk

47 Pages Posted: 25 Jun 2019 Last revised: 28 Jul 2020

See all articles by Ghasan Baghdadi

Ghasan Baghdadi

La Trobe University - La Trobe Business School - Department of Finance

Lily Nguyen

The University of Queensland - UQ Business School

Edward Podolski

Deakin University; Financial Research Network (FIRN)

Date Written: June 19, 2019

Abstract

We find that co-opted boards facilitate more erratic and arbitrary decision-making, contributing towards default risk. A one standard deviation increase in co-option increases default risk by 11% relative to normal levels. Supporting the notion that co-option makes decision-making more erratic, we find that stock return volatility and fundamental volatility are higher among co-opted boards and that strategic conformity among such firms is lower. We find no evidence that our results may be driven by firm risk-taking, however, we do find evidence suggesting that co-opted boards are less engaged and involved in strategic decision-making. We also find that external oversight mechanisms, in the form of institutional investors, financial analysts, media coverage, and takeover susceptibility, mitigate the documented effect. Overall, our study documents new evidence on the adverse effect of co-opted boards on firm default probability.

Keywords: expected default risk, board independence, agency conflicts, corporate governance

JEL Classification: G30, G33, G34

Suggested Citation

Baghdadi, Ghasan and Nguyen, Lily and Podolski, Edward, Board Co-Option and Default Risk (June 19, 2019). Journal of Corporate Finance, Forthcoming, Available at SSRN: https://ssrn.com/abstract=3406924 or http://dx.doi.org/10.2139/ssrn.3406924

Ghasan Baghdadi

La Trobe University - La Trobe Business School - Department of Finance ( email )

Department of Economics and Finance
Victoria 3552, 3086
Australia

Lily Nguyen

The University of Queensland - UQ Business School ( email )

St Lucia
Brisbane, Queensland 4072
Australia

Edward Podolski (Contact Author)

Deakin University ( email )

221 Burwood Highway
Burwood, Victoria 3125
Australia

Financial Research Network (FIRN) ( email )

C/- University of Queensland Business School
St Lucia, 4071 Brisbane
Queensland
Australia

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