Home Alone: The Effects of Lone‐Insider Boards on CEO Pay, Financial Misconduct, and Firm Performance
| Author | Christine Shropshire,David J. Ketchen,James G. Combs,Michelle L. Zorn,John A. Martin |
| DOI | http://doi.org/10.1002/smj.2661 |
| Date | 01 December 2017 |
| Published date | 01 December 2017 |
Strategic Management Journal
Strat. Mgmt. J.,38: 2623–2646 (2017)
Published online EarlyView 31 May 2017 in Wiley Online Library (wileyonlinelibrary.com) DOI: 10.1002/smj.2661
Received 5 June 2016;Final revisionreceived 11 March 2017
Home Alone: The Effects of Lone-Insider Boards on
CEO Pay, Financial Misconduct, and Firm Performance
Michelle L. Zorn,1*Christine Shropshire,2John A. Martin,3
James G. Combs,4and David J. Ketchen, Jr.1
1Department of Management, Harbert College of Business, Auburn University,
Auburn, Alabama
2Department of Management and Entrepreneurship, W. P. Carey School of Business,
Arizona State University, Tempe, Arizona
3Department of Management and International Business, Raj Soin College of
Business, Wright State University, Dayton, Ohio
4Department of Management, College of Business Administration, University of
Central Florida, Orlando, Florida
Research summary: Corporate scandals of the previous decade have heightened attention on
board independence. Indeed, boards at many large rms are now so independent that the CEO
is “home alone” as the lone inside member. We build upon “pro-insider”research within agency
theory to explain how the growing trend toward lone-insider boards affects key outcomes and
how external governance forces constrain their impact. We nd evidence among S&P 1500 rms
that having a lone-insider board is associated with (a) excess CEO pay and a larger CEO-top
management team pay gap, (b) increased likelihood of nancial misconduct, and (c) decreased
rm performance, but that stock analysts and institutional investors reducethese negative effects.
The ndings raise important questions about the efcacy of leaving the CEO “home alone.”
Managerial summary: Following concerns that insider-dominated boards failed to protect
shareholders, there has been a push for greater board independence. This push has been so
successful that the CEO is now the only insider on the boards of more than half of S&P 1500
rms. We examinewhether lone-insider boards do in fact offer strong governance or whether they
enable CEOs to benet personally. We nd that lone-insider boards pay CEOs excessively, pay
CEOs a disproportionately large amount relative to other top managers, have more instances of
nancial misconduct, and have lower performance than boards with morethan one insider. Thus, it
appears that lone-insider boards do not function as intended and rms should reconsiderwhether
the push towards lone-insider boardsis actually in shareholders’ best interests. Copyright © 2017
John Wiley & Sons, Ltd.
Corporate governance practice continues to evolve.
One evolution that has largely escaped scholarly
attention is the increased use of lone-insider boards,
which occur when the CEO is “home alone” as the
only current employee on the board of directors.
Keywords: corporate governance; boards of directors;
CEOs; agency theory; board independence
*Correspondence to: Michelle L. Zorn, 405 W. Magnolia Ave,
Auburn, AL 36849. E-mail: mzorn@auburn.edu
Copyright © 2017 John Wiley & Sons, Ltd.
As evidenced by the 2002 Sarbanes-Oxley Act
and subsequent NYSE/NASDAQ rule changes,
publicly-traded rms face pressure to increase
board independence. As a result, it is perhaps not
surprising that a steadily rising number of rms
have taken the ultimate step toward independence
by adopting a lone-insider structure. Indeed, from
a handful prior to 1990, lone-insider boards now
account for more than half of S&P 1500 boards.
2624 M. L. Zorn et al.
As a growing trend, these boards appear worthy of
investigation.
Agency theory has long advised that boards
should be comprised of a majority of outside, inde-
pendent directors – i.e., those neither employed by
the rm nor from afliated companies that depend
on the rm (Bednar, 2012; Fama, 1980). The
push for more independent directors is grounded
in the belief that these directors’ independence
enhances objectivity and thus increases boards’
overall monitoring capacity, which should improve
rm performance by reducing CEOs’ ability to take
self-serving actions (e.g., Fama & Jensen, 1983;
Finkelstein, Hambrick, & Cannella, 2009).
While the benets of independent directors
have been heralded by governance practitioners
(e.g., Monks & Minow, 2011) and institutionalized
in practice through legislative action and stock
exchange rules that require a majority of indepen-
dent directors (Dalton, Hitt, Certo, & Dalton, 2007),
removing all non-CEO inside directors and leaving
the CEO “home alone” is a practical extension of
agency theory that goes well beyond the theory’s
recommendations. Removing non-CEO inside
directors implicitly assumes that such directors
bring little value. Not only is there a lack of empiri-
cal evidence to support such an assumption (Dalton
et al., 2007), there is a small but long-established
“pro-insider” stream of agency theory research
that explains how a small minority of inside
directors strengthens the monitoring capabilities
of independent directors by providing (a) better
access to critical information and (b) viable CEO
succession options (e.g., Baysinger & Hoskisson,
1990; Ocasio, 1994; Shen & Cannella, 2002).
Given that lone-insider boards are a relatively
new but increasingly prevalent governance struc-
ture, that this practice extends beyond the recom-
mendations of established theory, and that their
efcacy remains unknown, investigating the conse-
quences of lone-insider boards is both timely and
warranted. Indeed, if researchers fail to build theory
to explain why lone-insider boards might be harm-
ful and empirically demonstrate their consequences,
practitioners might see little reason to stop and
critically evaluate this increasingly institutional-
ized practice. We therefore draw on the pro-insider
stream of agency research to describe what is lost
when the CEO is left “home alone” on the board and
we investigate three outcomes: (a) CEO pay (i.e.,
excess CEO pay and the CEO-TMT pay gap), (b)
nancial misconduct, and (c) rm performance.
Although boards are shareholders’ primary
line of defense (Dalton et al., 2007), governance
forces external to the rm have also been shown
to exert inuence that shapes board members’ and
managers’ actions (Aguilera, Desender, Bednar,
& Lee, 2015). Thus, we also theorize that moni-
toring pressure from external governance forces,
namely stock analysts and institutional investors,
helps reduce lone-insider CEOs’ ability to take
self-serving actions at shareholders’ expense.
Results based on two-stage least squares regres-
sion on a panel of S&P 1500 rms supports our
theorizing that critical sources of information and
monitoring are lost on lone-insider boards, but that
the associated harm can be reduced by external
governance forces. Overall, our ndings suggest
that researchers and practitioners need to view
increasingly institutionalized norms about board
independence with caution.
Lone-Insider Boards: Changing Dynamics
in the Boardroom
With the birth of modern stock exchanges in the
late 18th century and the accompanying legalized
sale of company stock, managers were no longer
the primary owners sharing the same interests as
their investors (Berle & Means, 1932). These agents
might, in fact, divert resources towardpersonal con-
sumption (e.g., greater compensation, private jets)
or take actions to reduce personal employment risk
at shareholders’ expense (Fama & Jensen, 1983). As
a check against such actions and to secure invest-
ments from geographically dispersed shareholders,
boards of directors were created to constrain CEO
self-interest and tasked with hiring, monitoring, and
compensating professional agent-managers (Berle
& Means, 1932; Dalton et al., 2007).
Boards, however, are far from perfect in their
ability to effectively monitor management (Dalton
et al., 2007). Boards are comprised of inside direc-
tors (i.e., employees), afliated directors (such as
key suppliers), and independent directors. All types
of directors face challenges in monitoring CEOs
— insiders because they are employees whose
rewards depend on CEO support (Pitcher, Chreim,
& Kisfalvi, 2000), afliated directors because
they might lose future business (Johnson, Daily, &
Ellstrand, 1996), and independent directors because
they feel obligated to the CEO for their board seat
(Westphal & Stern, 2007). Many fear that these
Copyright © 2017 John Wiley & Sons, Ltd. Strat. Mgmt. J.,38: 2623–2646 (2017)
DOI: 10.1002/smj
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