FACULTY FOCUS Daehyun Kim
Describe the current state of ‘women on boards of directors’.
The average proportion of women directors on the boards of S&P 1500 firms has steadily increased, from seven per cent in 1998 to 16 per cent in 2015. Nevertheless, women are still significantly underrepresented in corporate boards, given that 47 per cent of the U.S. workforce consists of women. As of 2015, about 17 per cent of S&P 1500 boards still had no women directors and 35 per cent had only one.
A number of OECD countries are addressing this issue through various forms of regulations. Some countries have either mandated or established voluntary quotas for corporate boards; others, including Canada, require disclosure explaining the reason for the lack of gender diversity. These efforts are based on an argument that gender-diverse boards improve firm value.
However, whether gender diversity actually leads to higher firm value has been actively debated, and the literature documents mixed empirical evidence. One important aspect of understanding the relation between board gender diversity and firm value is identifying the mechanisms through which gender diversity impacts firm value. This was the objective of my research with Professor Laura Starks.
Based on your findings, what does a company lose if it doesn’t have any women on its board?
A board of directors without any women is more likely to be missing some key skill sets — in other words, functional expertise — that could improve the board’s advisory effectiveness; and a less effective advisory board, in turn, is associated with lower firm value. We identified 16 skill sets that have been deemed critical for corporate boards to effectively advise management. When we examined the relation between theseskillsetsandindividualdirectors,wefoundthatsomeof these skills are much more likely to be possessed by women, while others are more often found in men. More importantly, we found that most of the current cohort of corporate boards already possesses the skills that tend to be male-dominant; however, not many have the skills that are more likely to be offered by women. Therefore, if a board doesn’t have any
female directors, it is missing some critical skills that would improve its advisory capacity.
Describe which skill sets women tend to excel in.
The types of expertise that women are more likely to possess include risk management, human resources, sustainability, corporate governance, regulatory/legal/compliance, and political/government. As I mentioned earlier, these skill sets are currently lacking on most boards, particularly at smaller firms: Less than half of S&P Smallcap 600 boards have a director with expertise in risk management, human resources, sustainability or political/government. By contrast, all four of the male-dominated skill categories — finance, mergers & acquisitions, operations, and technology — can be found in the majority of those boards.
You indicate that smaller firms are even worse off than bigger firms. Is there a particular reason why smaller firms struggle more with this issue?
Indeed, the lack of gender diversity is more severe in smaller [S&P Smallcap 600] firms. Perhaps it’s because investors don’t put as much pressure on these firms: The smaller a firm, the less scrutiny it receives from the public. Also, from an investor’s point of view, the same governance change will have a much greater valuation impact when the change takes place at a larger firm. That is why corporate governance improvements usually start with the big firms. The effort to diversify boards hasn’t reached all the way down to the smaller firms yet — at least, not in the U.S.
That said, the situation isn’t much better for larger [S&P 500] firms. Even though many S&P 500 firms now have one or more women on the board, an average S&P 500 board consisted of only 20 per cent female directors as of 2015. Clearly, we can’t call that ‘diverse’.
What barriers and biases are preventing gender parity— or anything close to it—on these boards?
The primary barrier is the belief that women don’t have the required knowledge or experience to serve on corporate boards. This ‘belief ’ is sometimes disseminated by incum- bent directors with no supporting evidence backing up such a claim. In fact, there is already a significant and growing number of women in senior management with the required experience and expertise. Knowing this through data, I find it difficult to accept the claim that there aren’t enough qualified women to become board members.
Since corporate directorships can enhance one’s status and reputation in the business community, it is understandable that existing directors can be very protective of their ‘turf.’ Informally, this so-called ‘old boys’ club’ consists of members of a specific gender and race. Unless you resemble the other members of the club, it is extremely difficult to penetrate.
Broadly speaking, your research finds that heterogeneity tends to increase firm value. Is this widely accepted in business circles?
Organizational behaviour studies document that heterogeneity in opinions and perspectives among group members improves a group’s decision making. Corporate directors, in general, tend to agree with this argument and believe such heterogeneity increases firm value. However, to my knowledge, no prior studies have empirically examined whether heterogeneity in opinions among board members actually improves firm value. Prof. Starks and I have been working on another study that attempts to answer this question. In that study, we find that heterogeneity of board members’ functional expertise — the source for their professional opinions at board meetings — does indeed improve firm value, as measured by Tobin’s q [the ratio of the market value of a company’s assets divided by the replacement cost of its assets (book value)].
Do you think your findings would be similar if you explored other types of diversity, such as ethnic or racial diversity?
I haven’t examined the valuation effect in terms of other diversity categories as of yet, but that is something I am interested in doing. The reason we first examined gender diversity is because gender is currently the primary focus
Heterogeneity in opinions among group members improves a group’s decision making.
of the board diversity debate, not just in North America but worldwide.
Faced with this resistance, what can proponents of diversity do to convince boards that this is not just a moral argument but a newly-established benchmark that will improve the health of their business?
That’s an important question, because as indicated, one thing gender diversity proponents have been struggling with, is the lack of causal evidence in prior studies. We tried to address this issue by showing a mechanism through which women directors could contribute to corporate boards.
Corporate laws in the U.S. require boards to act in the best long-term interest of the corporation. Based on that, boards have been vehemently opposing the push for gender diversity when it is presented as a moral or social argument. Oftentimes, the primary argument against gender diversity is that the board must seek diversity not in terms of gender, but rather with respect to expertise, opinions, and perspectives, since it is heterogeneity in these traits — not gender per se — that improves a firm’s long-term value.
The premise of our study is consistent with the argument that heterogeneity of expertise is what matters. That said, our results show that female directors are likely to possess specific types of expertise that are often missing in incumbent boards, and that when added, this broadens the opinions and perspectives in the boardroom. These results, coupled with the results from the other working paper I mentioned earlier, suggest that appointing more women to corporate boards makes financial sense: Women directors are more likely to bring new perspectives, hence improving the quality of a board’s strategic discussions and the resulting decisions; this, in turn, is associated with a higher firm value.
Is it possible that men simply don’t value the particular skill sets that women tend to hold? That they, for example, prioritize finance over human resources?
I cannot answer why men or women tend to be more dominant on a certain set of skills, because I don’t have data on that. I think it may be due to differences in career paths.
What I can say is that corporate boards do not perceive female-dominant skill sets as unimportant. The 16 critical skill sets were determined by organizations that represent and advocate for corporate boards, such as the Conference Board and the National Association of Corporate Directors. These are organizations who recommend best practices from the corporate boards’ point of view.
It would be difficult to argue that the female-dominant skills are not crucial for corporate boards. Take, for example, risk management: most boards want to have a risk management expert, but argue that it is difficult to find qualified candidates. If the boards expand their search to include more women, I think they would find these experts more easily. Arguably, expertise in HR is one of the most crucial needs for any corporate board. All boards have governance or nominating committees that nominate or appoint directors as well as CEOS, and compensation committees that set executive compensation. Sustainability is also becoming a very important issue. Many firms nowadays are very focused on their corporate social responsibility activities: having a director with sustainability expertise would enhance the firms’ long-term strategic direction on corporate social responsibility.
In every discussion about the importance of embracing diversity, there is an implicit debate about whether the issue is a ‘pipeline problem’ or a recruitment problem. It’s not that companies don’t want women on their boards; they just can’t find them. Or, is it a recruitment issue, whereby people are only looking within their pre-existing networks, which tend to be homogenous—i.e. ‘white men recruit more white men’?
I think it’s both. The results of our study suggest that a recruitment problem exists, where incumbent corporate boards fail to tap into potential female director candidates. That said, even though my expertise is in corporate boards, I know that there is also an imbalance of gender in senior management roles, and in that case, it is mostly about the pipeline. Then the implicit question becomes: Should we
women on boards?
If we take a bottom-up approach, we would be saying the pipeline is the main problem. To solve this problem, we have to increase the proportion of female employees along the corporate hierarchy, including senior executives; and then, hope that such a change will lead to more women serving on boards. Alternatively, we could take a top-down approach by, for example, implementing a quota that increases the number of female corporate directors, with the hopes that diversity at the top will trickle down to the entire firm.
Personally, I think the bottom-up approach is very difficult to achieve, and I make that claim based on a historical fact on labour statistics: In the U.S., the proportion of women in the total labour force has gradually grown from 38 per cent in 1974 to 46 per cent in 1997; since then, this number has stayed constant at 46-47 per cent. If the bottom-up approach were effective, we would have expected a convergence between the proportion of women on boards and in the labour market. After 40 plus years of experiment, we now know that this convergence did not happen naturally.
In my view, it’s better to focus on achieving diversity from the top-down — by starting to gradually add more women on corporate boards over time, like the French model, to minimize a sudden, disruptive change in board composition. That sends a clear signal, not just to employees, but to the next generation of business leaders. If they see diversity at the very top of our most successful corporations, our next generation will grow up believing that diversity in corporate leadership is the norm.