Does Corporate Board Diversity Affect Corporate Payout Policy?

• Published date: 01 February 2016
• Date: 01 February 2016
• Author: Kiyoung Chang,Young Sang Kim,Soku Byoun
• DOI: http://doi.org/10.1111/ajfs.12119

Does Corporate Board Diversity Affect

Corporate Payout Policy?*

Soku Byoun**

Hankamer School of Business, Baylor University

Kiyoung Chang

College of Business, University of South Florida Sarasota-Manatee

Young Sang Kim

Haile/US Bank College of Business, Northern Kentucky University

Received 29 July 2015; Accepted 28 December 2015

Abstract

We find that firms with gender/racial diversity in their boards are more likely to pay larger div-

idends than firms with non-diverse boards. Our results suggest that board diversity has a sig-

nificant impact on dividend payout policy. The impact of board diversity on dividend payout

policy is particularly conspicuous for firms with potentially greater agency problems of free

cash flow, suggesting that a diverse board helps to mitigate the free cash flow problem. Our

findings are consistent with the argument that board diversity enhances the monitoring func-

tion of directors and shareholder–manager conflict resolution for the benefit of shareholders.

Keywords Board diversity; Payout policy; Monitoring; Free cash flow; Agency problems

JEL Classification: G3, G35

1 Introduction

Despite the acknowledgement by United States corporations that gender/racial

diversity in the board is a very important factor contributing to good corpora te

governance, they are silent about how this is so.

1

As reviewed in the next section,

*We thank Don Chance, Jung-Hyuk Kim, and Seok-Hoon Lee for their useful comments and

the participants of the Corporate Governance Conference at Korea Capital Market Institute.

Soku Byoun is grateful for the support provided by Hankamer School of Business at Baylor

University.

**Corresponding author: Soku Byoun, Hankamer School of Business, Baylor University, One

Bear Place #98004, Waco, Texas 76798, USA. Tel: (254) 710-7849, Fax: (254) 710-1092;

email: Soku_Byoun@baylor.edu.

1

The Wall Street Journal, 26 December 2011, “Female Directors: Why so Few? Groups Push

Major Companies to Make Changes; ‘Guys Don’t Want to Give Up Their Board Seats,’” by

Joann S. Lublin

Asia-Pacific Journal of Financial Studies (2016) 45, 48–101 doi:10.1111/ajfs.12119

48 ©2016 Korean Securities Association

the literature suggests that diversity in general brings positive cognitive outcomes for

groups, that is, diversity translates into a greater variety of perspectives being

brought to bear on decisions and, thereby, increases the likelihood of creative and

innovative solutions to problems. This cognitive effect is particularly important in

decisions such as those made by a board of directors because board members often

require information input from a variety of functional areas within and outside the

organization. Along these lines, the Alliance of Board Diversity (ABD) argues that

female and minority directors bring independent, creative, and fresh ideas to the

boardroom, thus enhancing corporate performance. Adams and Ferreira (2009) sug-

gest that gender-diverse boards are more effective monitors, while Carter et al.

(2010) argue that female and minority directors provide unique information to the

board, and thus improve strategic decision making. Thus, diverse boards can con-

tribute to a better understanding of the complexities of the environment, a reduced

risk of “group think,” and more astute decisions.

However, there can be negative effects of diversity. Diverse board members with

different backgrounds and skills may have integration problems. This is due to an

affective effect that people are mostly attracted to others who are similar to them

and more likely to form relationships with similar people. Consequently, people

who are different from their peers are more likely to be isolated. Nonetheless, firms

may select female and minority directors merely as tokenism (Baysinger and Butler,

1985; Adams and Ferreira, 2009) as having a diverse board may appear legiti mate

to the public, the media, and the government.

The effect of board diversity on corporate governance can be captured by differ-

ences in behavior when female and minority directors are present on the board.

Since it is difficult to directly observe such differences in behavior, the literature

focuses on the relation between board diversity and a measure of firm performance

in order to determine the extent to which board diversity matters. The presumption

is that if board diversity increases board effectiveness, then it should affect corpo-

rate performance.

In this study, unlike previous studies, we investigate whether board diversity

has a significant impact on corporate decisions. To this end, we examine whether

firms with diverse boards adopt different payout policies vis-

a-vis those with non-

diverse boards. We focus on the dividend payout policy because one of the most

important conflicts between managers and shareholders is the free cash flow prob-

lem (Jensen, 1986) and the dividend payout policy is approved by the board of

directors. The literature suggests that dividends can mitigate the free cash flow

problem.

2

Thus, dividend payout policy is a key component in resolving the share-

holder–manager conflict. To the best of our knowledge, no other study has exam-

ined the relation between board diversity and corporate payout policy. Examining

2

For example, see Grossman and Hart (1980), Easterbrook (1984), Jensen (1986), and DeAn-

gelo et al. (2006)

Corporate Board Diversity

©2016 Korean Securities Association 49

such a relation can aid in understanding the role of board diversity in corporate

governance.

The major advantage of our study is to investigate the direct impact of inter-

actions by diverse board members on a major corporate decision. Unlike dividend

policy, firm performance may be affected by the activities of a firm’s employees

working individually or various other factors, which makes it difficult to make a

clear connection between the effect of board diversity and firm performance. For

example, a diverse board can be a symbol of a socially just organization. Such a

symbolic effect may attract talented members of diverse groups and encourage

customers to purchase the firm’s products and services (Thomas and Ely, 1996),

which may in turn have a positive impact on firm performance. However, the

symbolic effect is just that; it would not affect the board decision on dividend

policy.

To the extent that a diverse board helps mitigate the agency problem of free

cash flow through its enhanced monitoring and effectiveness of resolving the share-

holder–manager conflict, we hypothesize that corporate board diversity has a greater

impact on dividend payout policy for firms with potentially greater agency pro b-

lems, that is, firms with low management stock ownership, weak shareholder rights,

and large free cash flows.

We find that firms with diverse boards are more likely to pay dividends and,

further, tend to pay larger dividends than do those with non-diverse boards. After

controlling for various firm and board characteristics, our results suggest that

diverse boards have significant impacts on dividends. In particular, firms with

diverse boards are associated with about a 15% higher probability to pay dividends

than are firms without diverse boards, and firms with diverse boards have signifi-

cantly higher dividend payout ratios than do firms without diverse boards. Fur ther-

more, the effect of board diversity on dividend payout policy is significantly greater

for firms with high free cash flow, more entrenched management, and low CEO

ownership. Our findings suggest that enhanced monitoring of a diverse board has

greater benefits for high free cash flow firms that are subject to managerial

entrenchment and a lack of managerial incentives.

We also find that firms with multiple female/minority directors tend to have a

greater propensity to pay dividends. Moreover, we find a positive association

between the fraction of diverse directors on the board and payout ratios, which

finding suggests that there are incremental effects of additional female/minority

directors on the payout level. The increased number of female/minority directors

appears to reflect fewer integration problems and more effective collaboration

within the board.

Given the differing characteristics and backgrounds of women and minorities,

one might expect different effects from female and minority directors on dividend

policy. Accordingly, we generate all our results separately for female and minority

directors. The results (available upon request) suggest that the gender and racial

diversities of the board have similar effects on dividend policy. The only exception

S. Byoun et al.

50 ©2016 Korean Securities Association