Accounting and Control RSS

  Independent Directors: A Weapon Against Cartels? 

Campello, Murillo; Ferres, Daniel; Ormazábal, Gaizka
Print Share

Cartels can be very costly not only for consumers but also for the firms involved. Just ask Daimler, DAF, Iveco, Volvo/Renault and Scania -- companies that were fined nearly 4 billion euros for price fixing in Europe from 1997 to 2011.

Independent directors on boards can play a prominent role as whistle-blowers in detecting and prosecuting cartels. Antitrust authorities ought to take these players' incentives into account when designing their policies.

That is according to research by IESE professor Gaizka Ormazábal, Daniel Ferrés and Murillo Campello, which yields two important findings. First, companies with a higher percentage of independent directors on their boards lose less market value when price-fixing scandals hit. Second, the research also reveals that cartels are shorter lived when the companies implicated have a higher percentage of independent directors.

Reputational Costs
According to the authors, both of those findings are linked to the reputational incentives of non-executive directors. If outsiders serve on the boards of corporations suspected of price-fixing plots, they can sustain significant personal costs. Thus, they tend to promote remedial measures and actions to help mitigate the damage to their reputations.

That may explain why companies with an above-median percentage of independent directors are more inclined to cooperate with authorities in leniency programs and replace the scandal-laden CEO.

Empirical Evidence
The researchers analyzed the value of 192 companies accused of price fixing in the five days before and after news of the scandal hit. They found that shareholders' losses are much smaller when companies had a higher percentage of independent directors. (See figure 1.)

This loss-mitigating effect is more likely when independent directors have fewer economic ties with the company being accused, either because they serve on other corporate boards or because they hold relatively few shares or options.

And the effect is particularly pronounced when the independent directors have weaker ties to the indicted CEO. This usually occurs when the outside directors were appointed for mandatory compliance with the Sarbanes-Oxley Act, preceded their indicted CEOs' tenure, or followed class-action suits initiated by shareholders.

Moreover, the cartel-busting effects of having a higher percentage of independent directors are also observed over the medium and long term. According to the study, the probability of a price-fixing plot surviving 10 years is significantly lower when companies have a higher proportion of independent directors. (See figure 2.)

Methodology, Very Briefly
The results of this study are based on the analysis of 192 American public firms prosecuted by antitrust authorities from 2002 to 2012. The researchers split the sample into two groups: firms with below- and above-median percentages of independent directors.

Ormazabal acknowledges funding from the Marie Sklodowska-Curie Fellowships (PCIG10-GA-2011-303810) of the European Commission, as well as the Ramon y Cajal program (RYC-2011-09051) and the Spanish National Plan (ECO2010-19314 and ECO2011-29533) of the Ministry of Economy, Industry and Competitiveness.
This article is based on:  Whistle-Blowers on the Board? The Role of Independent Directors in Cartel Prosecutions
Publisher:  The University of Chicago Press Journals
Year:  2017
Language:  English