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Do boards of directors have a use-by date?

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09/13/2016

The value of board directors to a company’s value increases the longer they serve—at least for nine years, according to new research from QMA that examines the relationship between average board tenure and current and future market value and future stock returns.

The study took a look at more than 3,000 companies over 18 years to show that experience enhances directors’ ability to monitor company management, advise on strategy and provide stability.

But as all good things must come to an end, the study carries a word of caution and an implied “use-by date”: After nine years, the positive relationship between tenure and company value reverses and values decline, especially at fast-growing companies that require directors to keep up with technological trends.

“Institutional and activist investors continue to call for board limits, claiming that long-tenured directors are too entrenched to be effective,” said Gavin Smith, vice president at QMA. “We found the opposite—that data supports the notion that companies with longer board tenures tend to increase in value and stock performance.”

 

Market–To–Book Sorted By Tenure Deciles

 

Source: S&P Capital IQ, Compustat Point-In-Time, QMA

 

Among key findings:

  • An investment strategy that goes long on companies with average board tenure of 12 years and short on those with tenure of less than two generated a monthly spread return of 0.31%.
  • Median market-to-book value increases as board tenures increase;
  • But, median company valuations drop sharply with board tenures of nine years and higher.
  • Markets reward companies with long-tenured boards with a “stability premium.”

“Clearly, it’s important to monitor the effectiveness of directors, but it’s equally important to understand that a one-size-fits-all term limit may have as much of a negative impact on company value as a director who has lost her edge,” Smith said.

For a complete summary of the research: http://www.qmassociates.com/BoardTenure

 

QMA, with $112 billion under management, is a multi–asset class investment manager, owned by Prudential Financial, Inc. (NYSE: PRU). The boutique asset manager is one of the first to provide empirical evidence showing the relationship between board tenure and company valuation.  (As of 6/30/2016)

 

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