Antecedents and performance outcome of board independence: Australian evidence

Current recommendations in Australia and some other economies identify independent directors as a key component of effective corporate governance. The research on the empirical link between board characteristics and firm performance, matching the trend towards greater board independence, is growing; the mixed evidence, however, suggests the need for an in-depth investigation. In this study several theories, which make different predictions about the effect of board independence on firm performance and vice versa, are tested. The results indicate that, for Australian listed companies, there is no strong relationship between board independence, and past or subsequent firm performance; it is reported that the level of board independence does not have any significant effect on firm risk. The evidence casts doubts on the hope that promoting board independence would improve corporate performance. It is recommended that, despite agency theory’s policy influence, whether certain corporate governance practices proposed by the perspective would lead to better performance should be empirically tested. With the publicity surrounding recent corporate collapses, the issues of board composition and structure generally and independent directors1 specifically, have become a fertile area of interest and research. This study intends to (1) shed some light on the impact of a recently altered regulatory environment with respect to corporate governance mechanisms, particularly those relating to the requirements for a majority of independent directors on the board and board committees; (2) test the applicability of several theories which make different predictions about the effect of board independence on firm performance and vice versa, and (3) address some of the limitations of prior studies, including small sample size, shortterm observation of firm performance, limited control variables and performance measures, and simplistic dichotomy of inside and outside directors as an empirical proxy for board independence. The remainder of this paper is organized as follows. In Section 1 a brief introduction to recent corporate governance reforms is provided, followed by a literature review in Section 2. The potential links between board independence and firm performance as suggested by different conceptual frameworks are examined in Section 3, resulting in five hypotheses. Section 4 describes the research design used to test these hypotheses. The findings of data analysis are reported in Section 5, leading to conclusions and discussion in Section 6 and 7